Deutsche Bank Global Transaction Banking Beyond T2S Optimising liquidity management in securities settlement
Deutsche BankGlobal Transaction Banking
Beyond T2S
Optimising liquidity management in securities settlement
Contents Introduction /3 Liquidity challenges in T2S /4 LiquiditybenefitsofT2Sarchitecture/6 Liquidity optimisation in T2S /7 AdditionalliquiditysolutionsT2Smightfacilitate/10 SolutionsbeyondthescopeofT2S/11 Whatisthefutureoutlook?/12
WiththeintroductionofTARGET2-Securities(T2S),thesettlementofsecuritiesinparticipatingmarketsbecomesrealtimeandrequiresupfrontfundingincentralbankmoney.Settlement Providers who act as T2S Payment Banks are requiredtoanticipatetheirliquidityneedstofacilitatethesecuritiessettlementprocess.Thiswhitepaperexploresfourkeyaspectsoftheliquiditymanagementprocessforinvestors and their service providers: liquidity challenges in T2S;liquiditybenefitsofT2Sarchitecture;additionalliquiditysolutionsT2Smightfacilitate;andsolutionsbeyondthescopeofT2SthatcouldneverthelesshelptosimplifyandalleviateliquiditychallengesforT2Sparticipants.
ThearchitectureofT2Shelpsintheprocessofliquidityoptimisationinspecificwaysthatthepaperoutlines.Italsoconsidershowreporting requirements relating to T2S can be accommodated andlooksbeyondtheplatformitselfforadditionaltechniquesthatcustodiansandotherT2Sserviceprovidersmaybeabletooffertomitigatebroaderliquidityconstraints.
3 Liquidity management in T2S
Introduction
Cross-bordersecuritiessettlementinEuropehas,overthepasttwodecades,requiredlinksthroughachainofintermediariesfromtheinvestordowntoanationalCentralSecuritiesDepository(CSD)ontheonehandandanationalCentralBank(NCB)ontheother.Thelastlinksinthischainhavetraditionallybeenhandledbyalocalcustodianwithdirectmembershipatbothofthesemarketinfrastructures.SettlementhastypicallytakenplaceinCentralBankmoney(CeBM)atamarketlevel(betweenthecustodianandtheCSDandCentralBank)andincommercialbankmoneyataclientlevel(betweenthecustodiananditsclient).
Overthepastfewyears,astrongeremphasis on risk management in thedesignofmarketinfrastructurehasbeenreflectedintheshifttowardsreal-timegrosssettlement(RTGS)inlarge-valuepaymentsanddeliveryversuspayment(DVP)insecuritiessettlement,bothassociatedwith greater liquidity pressures on participants.
WiththeintroductionofTARGET2-Securities(T2S),thesettlementofsecurities in participating markets becomes real time and requires upfrontfundinginCeBM.Inthisregard,T2Sofferscustodyclientsachoice:tosettleintheclient’sCeBMthrough its own Dedicated Cash Account(DCA)orviathecustodiansDCA/CustodianCeBM.Sofarclientshave yet to demonstrate a particular preference,thoughtheavailabilityoftheseoptionshasyettobemarketed.Custodians will nevertheless need toshowflexibilitytoaccommodatewhatever approach the client ultimatelyadopts.
Evaluatingliquidityrequirements and opportunities
Settlement Providers who act as T2S Payment Banks are required to anticipate theirliquidityneedstofacilitatethesecuritiessettlementprocess.Inthiscontext,howcanmoreeffectiveallocationofcashandricherfundingopportunitiesbestbeachieved?
Inexploringanswerstothisquestion,thesecondinourwhitepaperseriesfocusesonfourkeyareas:
 liquidity challenges in T2S;
 liquiditybenefitsofT2Sarchitecture;
 additional liquidity solutions T2S might facilitate;and
 solutionsbeyondthescopeofT2Sthatcouldhelptosimplifyandimproveliquidity
THEARCHITECTUREOFT2SHELPS
INTHEPROCESSOFLIQUIDITYOPTIMISATION
4 Liquidity management in T2S
Liquidity challenges in T2S
BeforetheimplementationofT2S,liquiditybufferswerehelddiscretelyineachmarket.Thisinvolvedbilateralarrangementsbetweenclientsandprovidersforintradayliquidityprovisioning.WiththerolloutofT2S,firmsthatrelyonintradayliquidityarelookingatwaystominimisetheliquiditytheyusefromproviders,particularlyinlightoftheprogressiveimplementationofnewregulatoryrequirements.Severalofthesehavetheirownimpactonliquidityneeds.Suchregulationsinclude,butarenotlimitedto,BaselIII,theLiquidityCoverageRatio(LCR)andtheSupplementaryLeverageRatio(SLR).
Client
Provider
Client
option
Provider
Pre T2S Post T2S
5 Liquidity management in T2S
Regulationsimpactingliquidityinclude,butarenotlimitedtoBaselIII,theLiquidityCoverageRatio(LCR)andtheSupplementaryLeverageRatio(SLR)
BASELIII
BaselIIIisaframeworkofglobalregulatorystandardsonbankcapitaladequacyandliquidityagreedbyCentralBankGovernorsandHeadsofSupervisionandendorsedbytheG20.Itsaimistoensurehigherandbetter-qualitycapital,betterriskcoverageandabuild-upofcapitalasabufferintimesofstress.
TheBaselCommitteeonBankingSupervision(BCBS),inconsultationwiththeCommitteeonPaymentandSettlementSystems(CPSS)hasdevelopedasetofquantitativetools(BCBS248)toenablebankingsupervisorstomonitortheintradayliquidityriskofbanksundertheirsupervisionandtheabilityofthosebankstomeetpaymentandsettlementobligationsunderbothnormalandstressedconditions.AccordingtotheBIS,ThenewBaselIIIliquidityrulesmarkthefirsttimethatspecificglobalquantitativeminimumstandardsforliquidityhavebeenintroduced.
LCR
Theliquiditycoverageratioisdesignedtoensurefinancialinstitutionshavethenecessaryassetsonhandtorideoutshort-termliquiditydisruptions.Itdoesthisbyensuringthatbankshaveanadequatestockofunencumberedhigh-qualityliquidassets(HQLA)thatcanbe converted easily and immediately in private markets into cash to meet their liquidity needsfora30calendardayliquiditystressscenario.
SLR
TheSupplementalLiquidityRatio(SLR)isanon-risk-basedmeasureintendedtobea“backstop”totherisk-weightedcapitalrequirementsunderBaselIII.Itlimitstheamountofleveragethatabankingorganisationmayincur.
i
ii
iii
6 Liquidity management in T2S
LiquidityBenefitsOfT2Sarchitecture
ThearchitectureofT2Sitselfhelpsintheprocessofliquidityoptimisationinfourspecificways:byintroducingtheoptionofasinglededicatedcashaccount(DCA)withaparticipatingCentralBank;throughitsAuto-Collateralisationfacility;bytechnicalnetting;andtheuseofanovernightsettlementcycle(Seebelow).
ThefirstofthesedoesawaywiththeneedformultipleeurocashaccountswithdifferentCentralBanksintheEurozone.OnlyoneeuroCentralBank cash account – the dedicated cashaccount(DCA)–issufficientforall T2S transactions to settle in all T2Smarkets.
Inaddition,bothsecuritiesaccountsand cash accounts are integrated onasingleITplatform.Theplatformaccommodates both the market participants’securitiesaccounts,held
ateitheroneormultipleCSDs,andtheirdedicatedcashaccounts(DCAs)held with their respective national CentralBankexclusivelyforsettlementinT2S.DCAsareinturnlinkedtoacashaccountinTARGET2viatherelevantCentralBank.Theuseofthismodel allows T2S to connect any securities account at a participating CSD with any cash account at any participatingCentralBank(SeeDiagram1).
*FacilitatesaSinglecentralbankfundingforallT2Smarkets
T2S Platform
Client
AgentBank
AgentBank Agent Bank
AgentBank
CSD
Local Settlement platform
Local Settlement platform
Local Settlement platform
CSD CSD CSD CSD CSD
NCB NCB
Client
NCB Single NCB*
Pre T2S Post T2S
7 Liquidity management in T2S
CLIENTSSHOULDLOOkTOWORkWITHTHEIRPROVIDERSNOWTODEVELOPSOLUTIONSTOTHEIRLIQUIDITYNEEDS
8 Liquidity management in T2S
Theavailabilityofthesetechniqueswill,tosomeextent,dependonclients’accountpreferences.DeutscheBankclientscan,forexample,choosewhethertosettleintheirownCeBMandtakeotherservicesfromtheBank or they can settle in Deutsche Bank’sCeBMandenjoyotherbenefitsattachedtothis,suchasthebank’sprefundingserviceanditsowncreditlineswiththeBundesbank.
Impactofovernightsettlementcycles
T2Shasadoptedtheuseofanovernight settlement cycle to settle themajorityoftransactions.FortheperiodSeptember-December2015,T2Ssettled,onaverage,1.87millionsecuritiestransactionspermonth.Some76%weresettledovernight,comparedto24%intra-day.Theresultofthisistosubstantiallyreduceintradayliquidityrequirements.
Technical netting
Technical netting reduces the needforcashandsecuritiesbygrouping transactions into a set and calculating the net quantities and amountstobesettledonanall-or-nonebasis.Thesenetquantitiesandamountsarethebasisforthe checks against the available resourcesandassessmentofintradaycreditrequired.
Partial settlement
Partial settlement enables splittingoftransactionswhere only limited resources remainavailable,providedthesettlement instructions agreed bythecounterpartiesallowforit.
Settlement optimisation algorithms
Thesefavourthesettlementoftransactions with a higher level ofpriority,followedbytheoldestintendedsettlementdate,inawaythatmaximisesthevolumeandvalueofsettlement.OptimisationalgorithmsexaminealltransactionsindifferentISINstoidentifychains.
Auto-collateralisation
Auto-collateralisationisacostefficientwaytocreateadditionalintra-dayliquidity,usingthevalueofsecuritiesonflow(securitiesreceipttransactions)andonstock(securitiesholdings).Byflaggingtheseforauto-collateralisationusage,T2SallowsthetransformationofthestockvalueintoextraintradayliquidityontherespectiveDCA.This,inturnenablesRvPsecuritiestransactionstosettlewithouttheneedtofillthelackofcashontherelatedDCAthroughaliquiditytransferfromaT2account.
Auto-Collateralisationconsistsoftwotypes:oneinvolvingcreditprovidedbythecentralbanktothepaymentbank(DCAaccountholder);andasecond,clientcollateralisation,wherethepaymentbank(DCAaccountholder)providescredittoitsclients.Byfacilitatingoptimalusageofliquidityandsecurities,auto-collateralisationisexpectedtosignificantlydecreasebanks’liquidityneedsandborrowingcostsaswellasthenumberoffailedinstructions.
Liquidity optimisation in T2S
T2Saimstoimprovesettlementratesbyofferinganumberofoptimisationfeatures:
9 Liquidity management in T2S
i General reporting requirements
InordertomanageliquidityefficientlyT2Sparticipantsrequireappropriaterealtimeintra-dayreportingthatallowsforpropercashforecasting,calculatingtheirliquidityneedsandcateringforrespectiveliquiditytransfersintotheirDCAaccount,inatimelyandautomatedmanner.
T2Sparticipantsalsoshowdifferentrequirementswhenitcomestoreportingformats;someareSWIFTISO20022compliant,whilstothersrequireSWIFTISO15022messagesandsomemayhavespecificadditionalreportingneeds.
ii T2S reporting offering
ConnectivitychoicetoT2Sforbothsecuritiesaccounts(SAC)andDCAaccountshasanimportantbearingonreportingoptions.Participantscanchoosewhethertoconnectasanindirectlyconnectedparty(ICP)ordirectlyconnectedparty(DCP)forboththeirSACandDCAaccounts.ThetypeofT2Sconnection(ICPorDCP)triggersthereportingthatparticipantsreceive.LiquidityreportingforDCPscomesinISO20022format,whileICPswillreceivereportingintheCSD’sexistingformatusuallyISO15022.
iii Service providers’ reportingoffering
Liquidityreportingtodayalreadyformspartoftheserviceproviders’coreserviceofferingandisprovidedtoclientsviaSWIFT,web-toolsandotherformats,accordingtoclients’needsandserviceproviders’flexibility.
Whenitcomestoreportingrequirements,“real-time”iskeyintwoways:itenablesefficientmanagementofintra-dayliquidityandallowsclientstomeetregulatorydemands.Serviceprovidersmuststayflexibletomeettheseclientdemands.
Reporting
Additional liquidity solutions T2Smightfacilitate
T2SPARTICIPANTSREQUIREAPPROPRIATEREALTIMEINTRA-DAY
REPORTING
10 Liquidity management in T2S
LIQUIDITYREPORTINGTODAYALREADYFORMSPARTOFTHESERVICEPROVIDERS’CORESERVICEOFFERING
11 Liquidity management in T2S
WhileinteractionwithT2Sinvolvesspecificliquidity-relatedoperationsthatparticipantswillneedtoaddressonadailybasis,thebroaderobjectiveofliquidityoptimisationmaybeenhancedbydrawingontechniquesthat,whilebeyondthescopeofT2Sasaplatform,mayhelpalleviateliquiditydemands.
SolutionsbeyondthescopeofT2S
Theavailabilityofcollateraloptimisationtoolsallowsforthecreationofnewflowfinancingsolutions(“FlowFinancing”)toprovide working capital liquidity tofinancialintermediaries.Clientssuchasbrokerdealers,whomayhave limited access to unsecured finance[duetoregulatorypressure]couldbenefitsignificantlyfromFlowFinancing.DeutscheBankisworkingwithanumberofbrokerdealerstorealisethispotential.
Flow Financing
Flow Financing is a potentially cost-effectivetoolavailablethroughanagentbankprovider.Itallowstheagentbank,toadvancecashagainst long securities in a client’s account(whichmaybeintransit).Thisiseffectivelyaformofovernightrepo which allows the securities to beavailableforthenextdaylightsettlementcycle.Thisiscostefficientfortheclientandtheagentbank.Toillustratethebenefits,weprovidetwoexamplesofabrokerdealerclientofanagentbank.
Example1.Failedtradefinancing
Assume the broker dealer has a securities account and a cash account withtheagentbankthatactsasitscustodian.Foreveryselltrade,theagentbankdeliverssecuritiesandreceivescash,whileforeverybuytrade;itreceivessecuritiesanddeliverscash.
Thebrokerdealerwouldnormallybeflatsecuritiesattheendofeachdayandwillholdsomeresidualcashinthecashaccount.Onmostdays,however,theclienthassecuritiesremaininginitsaccountassometradeswillnothavesettled.Inthisevent,theanticipatedcashwouldnothavebeenreceivedintheclient’scashaccount,whichwouldconsequentlybeindebit.Thedebitpositioncreatescreditriskfortheagentbankandhascostimplicationsfortheclientastheagentbankleviesoverdraftfeestocoverthebalancesheetcostsofthisrisk.
As the broker dealer will normally have title to the long securities in its securities account it could try to repo the securities overnight to raise cashandoffsetthedebitbalance.Inpracticethisisnotpossibleasi)repomarketswillhaveeffectivelyclosedsomehourspreviouslyii)thereislimitedappetiteforovernightrepoandiii)thecut-offtimesforinterbankcashpaymentsmeanend-of-dayfinancingisonlypossibleusingintrabankcashpayments.
Thesolutioninthisexampleisaflowfinancingtransactionwherebythebrokerdealerandagentbankenterintoafinancingagreement.Thebankutilises long securities in the securities account as collateral and provides shorttermcashtotheclient,equaltothevalueofthesecurities,minusahaircut(apercentagepointdiscountontheassetvalue).Thisreducestheoverdraftandoffersacosteffectiveandefficientbalancesheettradeforboththebankandthebrokerdealerclient.Thetradeisthenreversedoutfirstthingthefollowingday.
12 Liquidity management in T2S
Diagram2[FlowFinancingvisuallydemonstrated]
CLIENTSCANBENEFITFROM
FLOWFINANCINGSOLUTIONS
Example2:TimeSensitiveObligations
Inthisexamplesimilartotheoneabove,theclient(typicallyabroker-dealer)hasanobligationtomeetatime-sensitivepayment(e.g.amargincall,CLSPay-inetc).Suchpaymentsarepartofthedailytransactionflowoftheclient’sbusiness.Theclienttypicallyholdssufficientcashtomeettheseobligations,butmaybeunabletogetthecashtothesettlementbankintimeowingtotightoperationalconstraintsandchallengingtime-linesimposedbythemarketinfrastructures.
Clientscanbenefitfromflowfinancingsolutionsthatallowthesettlementbanktouserepo-likeinstrumentstofacilitateintra-bankpaymentssecuredbyagreedcollateral.Thecollateralistransferredviatitletransferorpledgeusingtripartiteinfrastructuresorviaseamlesscollateral mobility solutions enabled by the harmonisation and simplificationofferedbyT2S.
Thisallowstheinstitutiontooutsourceitstime-sensitiveoperationalobligationswhilstfocusingoncoretreasuryandfundingactivities.
Cash
Agent Bank TriParty Agent Client takes delivery of securities and simultaneously pays out cash. Due to failed trades, securities remain in the client’s securities account and no cash is received
Securities are transferred from the client’s securities account to the Agent Bank’s securities account, held with a TriParty agent
On receipt of securities, the Agent Bank makes a cash payment to the client’s cash account to the value of the collateral that was received
On T+1, the Agent bank will utilise a PoAto make a cash payment from the client’s account back to its own account
Following payment, the securities will be returned to the clients securities account held with the Tri-Party agent
The securities will then be available in the client’s securities account to attempt onward settlement
The client will receive cash from the settlement of the security and their cash account with the Agent Bank will be credited with the cash
1
2
3
4
5
6
7
7
1
6
4 3 5 2
Cash
Cash
DB A/CDB AG LDN
DB SecuritiesA/C
Client A/CDB AG LDN
Client SecuritiesA/C
Cash
Securities
Securities
Securities Securities
CLIENTSSHOULDLOOkTOWORkWITHTHEIRPROVIDERSNOWTODEVELOPSOLUTIONSTOTHEIRLIQUIDITYNEEDS
14 Liquidity management in T2S
Whatisthefutureoutlook?
Clientsshouldalsobelookingaheadtofuturerequirements.How,forexample,willtheadventofamulticurrencyenvironmentaffectthebenefitsofcashpoolinginT2S?Althoughthebenefitsforeurowillremain,poolingbenefitsacrossmultiplecurrencieswillnotbepossibleintheT2Splatformalone,sinceseparateDCAswillnowberequiredforeuroandothercurrencies.Multiplecentralbankrelationshipswillthereforecontinuetobeneeded.Clientsshouldlooktoworkwiththeirprovidersnowtodevelopsolutionstotheirliquidityneedsinthemulti-currencyenvironment.
Bringing T2 and T2S closer together
TheEurosystemisexploringsynergiesbetweenT2andT2Swiththeaimofdevelopingapan-Europeaninstantpayments solution and assessing thepossibilityofharmonisingandimproving collateral management arrangementsintheEurosystem.
Inordertosuccessfullyachieveaharmonisationofthetwoplatforms,itis imperative that the industry works together,consideringtheneedsofallkeyindustrystakeholders.
Afirstreviewofindustryparticipantsyieldedthefollowingneeds:
 StabilisationoftheT2Splatformbeforeconsideringamerger with T2
 TheinclusionofkeyT2/T2S industry stakeholders in the dialogue on a potential platformmerger
 A clear and well prepared time line
 Considerationofmessagingformat(s),includingaviewondigitalisation
 Considerationofnon-operational T2 holidays andworld-widetime-zoneneedsinlightoftherequiredoperatingwindowoftheT2Ssecurities business
Conclusion
Althoughcomplex,liquiditymanagementcanbesimplifiedwiththehelpofspecifictoolsavailablewithin T2S as well as tools provided bytheclient’sagentbank,whichare complimentary to the technical platform.Experiencedagentbanksarewell positioned to help guide clients inthisregard.Clientsshouldconsiderthe ideas contained within this paper as potential contributors to alleviating liquidity pressures in a post T2S environment.
ThisbrochureisforinformationpurposesonlyandisdesignedtoserveasageneraloverviewregardingtheservicesofDeutscheBankAG,anyofitsbranchesandaffiliates.ThegeneraldescriptioninthisbrochurerelatestoservicesofferedbytheGlobalTransactionBankingofDeutscheBankAG,anyofitsbranchesandaffiliatestocustomersasofAugust2016,whichmaybesubjecttochangeinthefuture.Thisbrochureandthegeneraldescriptionoftheservicesareintheirnatureonlyillustrative,doneitherexplicitlynorimplicitlymakeanofferandthereforedonotcontainorcannotresultinanycontractualornon-contractualobligationorliabilityofDeutscheBankAG,anyofitsbranchesoraffiliates.
DeutscheBankAGisauthorisedunderGermanBankingLaw(competentauthorities:EuropeanCentralBankandGermanFederalFinancialSupervisoryAuthority(BaFin))and,intheUnitedkingdom,bythePrudentialRegulationAuthority.ItissubjecttosupervisionbytheEuropeanCentralBankandtheBaFin,andtolimitedsupervisionintheUnitedkingdombythePrudentialRegulationAuthorityandtheFinancialConductAuthority.Detailsabouttheextentofourauthorisationandsupervisionbytheseauthoritiesareavailableonrequest.
Thiscommunicationhasbeenapprovedand/orcommunicatedbyDeutscheBankGroup.ProductsorservicesreferencedinthiscommunicationareprovidedbyDeutscheBankAGorbyitssubsidiariesand/oraffiliatesinaccordancewithappropriatelocallegislationandregulation.Formoreinformationhttp://www.db.com
Copyright©August2016DeutscheBankAG.
Allrightsreserved.
FormoreinformationVisitdb.com/gtb,[email protected] orfollowusonTwitter@talkgtb.