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Showing posts with label Clearing. Show all posts
Showing posts with label Clearing. Show all posts

Wednesday, August 13, 2014

CLEARING ENTITIES – WHEN ARE THERE TOO MANY?

It seems that every week there’s an announcement of a new clearing entity supporting a market or product. Clearing is critical and provides safety and risk mitigation for market participants. But I wonder if there can be too much of a good thing?

Granted, clearing is a basic requirement of a sound financial services industry, and should address trade matching, collection of initial and variation margin and the clearing entity acting as the Central CounterParty. But is forming a new clearing entity the most effective approach?

In a market without a clearing entity, one is needed to provide critical services. This often requires regulatory changes, perhaps on a national scale, to begin the process. The local infrastructure must be in a position to support this process. This includes funding and contributing the expertise to define the processing and control functions. This is a heavy burden for an emerging or pre-emerging market to undertake.

Perhaps leveraging the expertise of an existing clearing organization, rather than creating a new entity, is a better alternative. This would permit clearing services to be made available faster and potentially with less pain and expense usually associated with forming a new entity. The potential benefits of this approach are considerable as it would reduce the costs associated with development and encourage the use of clearing in new markets.

Further along this line, I question why new clearing entities are being formed in markets where there is an existing entity already providing clearing services.  Are clearing services for one product substantially different from another product?  Are there benefits of using an existing platform?

If there are legislative or regulatory issues that demand a new entity, the industry should appeal this situation as it results in a fragmented clearing process. Additionally it requires firms to join multiple entities, support redundant interfaces and holding positions and balances across multiple entities all which results in increased costs.

Perhaps some products can’t be co-mingled or require unique processing streams and / or reporting.  Or segmentation may be required to mitigate associated risks. This can be addressed via a holding company structure where different processing streams within a clearing entity would maintain the required segmentation.

The old approach of “cloning” an existing infrastructure, to support a new requirement, has been the “go to” approach for financial services firms for far too long. As seen many times, this seemingly simple approach is costly in the long run with multiple interfaces, maintenance of different but similar applications and processing multiple processing streams.

Once in-place these cloned systems are almost impossible to replace or eliminate due to the ever evolving demands for new products, faster processing or new markets.
Fewer clearing entities will flatten the landscape and reduce fragmented processing streams. It will also support cross-margining and improved collateral management. In the future fewer clearing entities will ease the transition to global interfaces among clearing entities.

So, when will we learn from the hard lessons and modify our approach to the never-
ending demands of the industry?

What is your opinion about this?

           Are there other viable approaches available?

                 How many clearing entities memberships does your firm have?


Wednesday, April 16, 2014

THE FUTURE OF THE MIDDLE OFFICE


The Middle Office evolved as a result of various issues facing Sell-side firms. Two issues, in common, to these firms were:

1.     a need for additional controls to improve the accuracy of the trade details at the beginning of the trade lifecycle

2.     the need to identify and resolve issues causing trade settlement delays

The response was to establish a function that would be closer to the front office, where client facing activities tak place, than the traditional back office. That’s how the name Middle Office came to be and has stuck.

Eventually buy-side firms, as well as other industry service organizations, also established a middle office function as well. This allowed each to functionally match-up to broker/dealers, custodians and prime brokers. Over time the focus of the Middle Office grew to include accounting, reporting and other control activities. The role of the Middle Office has improved operational efficiencies, reduced the cost of resolving delayed and failed trade settlements.

As the time between trade and settlement date shrinks, the Middle office may again prove to be an essential function in maintaining operational efficiency.  The reduction of time between trade and settlement date results in less time to resolve problem trades. This loss of time will require firms to rethink existing internal practices to ensure that there is sufficient time to identity, analyze the cause and resolve the issues that may delay timely and accurate settlement.

Today resolution of problem trades often requires interaction across various front, middle and back office areas. This can take a considerable time and may result in settlement delays. A shortened trade-settlement schedule may result in an increase in unresolved trades. This will have a negative impact on settlement and post settlement activities plus increase operating costs.  One approach might be to reduce the number of departments or staff involved in trade and settlement processing.

Restructuring operational responsibilities is one alternative to consider. Perhaps moving the activities associated with pre-settlement and settlement, now performed by the Back Office, to the Middle Office may be worth a review.

A new infrastructure might include reassigning functions between the Middle ad Back Office areas as follows:

1.     Middle Office – all post order(trade) execution through settlement functions

2.     Back Office – all post settlement through to asset servicing functions

This change is a huge leap from the structure that has been in-place for years. It is similar it to the introduction to technology in the 1960’s which resulted in new work flows, new departments and procedures. Technology continues to support the business and the impact is the same, with slight variations and the evolving changes are accepted as (business as usual.  

This is one approach. There is sufficient time for the industry to ponder the impact of reducing the trade-settlement and explore appropriate responses.

         Do you agree that this is a situation we will face?
 
                Is splitting functions between Middle and Back Offices viable? 
      
                     Can you offer alternative responses?

Monday, April 14, 2014

MULTIPLE SYSTEMS = MAINTENANCE CHALLENGES

The approach broker / dealers adopted early on in the development of application technology was to develop product-centric systems. For example a, equity system fro equities, a government systems for Treasury and a MBS system for mortgage backed securities. As a result, today firm have multiple processing platforms, each supporting specific products. The driver behind this approach was to create a template system that could be cloned to support other product systems. For example if the base fixed income system was the Treasury bond system, it could be used as the foundation for corporate and municipal bonds. Extraneous or unneeded functionality would be stripped while new functionality unique to corporate and municipal bonds would be added. This allowed firms to avoid "reinventing the wheel" each time they introduced a new product and sped up the process as well.

The outcomes were many similar, but different processing systems, each requiring expertise, maintenance and support. For example some products settled one day after trade date, others five days after trade date while mortgage backed securities can settle up to six month after trade date. Differences were pervasive throughout the trade life-cycle as well as in reference data, trade entry, and asset servicing and reporting. This required systems developers and maintenance staff to have current and relevant expertise and knowledge of each product and the related processing functions. The bottom line is that this resulted in increased information technology costs and often delayed new functionality and updates to be applied, even today.

Firms are still struggling to find an approach to address this challenge.  In the past 30+ years have seen many innovations in database design, programming languages and other advances that can provide benefits to financial services firms processing systems. But first they must reduce the number of product-centric systems to facilitate an efficient future environment. There are various alternatives; one is to build a new multi-product system to replace the product-centric systems. But the alternatives require a major effort in cost and resources. And have to be done in the current environment of keeping costs down.

 
         What is your opinion about this?

          Does this cause firms to less competitive?
                                Are there other viable approaches available?

Thursday, January 30, 2014

CENTRAL COUNTER-PARTIES (CCP) – HOW MANY ARE NEEDED?

With the global focus on reducing counter-party risk the number of central counter-parties has increased in recent years. CCP play a major role in ensuring safe markets and best practices. Their primary purpose is to mitigate risk between trade counter-parties. CCP traditionally provide a broad range of services to support their members. These services may include; trade reporting, trade comparison, collection of margin or clearing deposits.  

As new regulations take effect there may be an increase in the number of CCP.  The industry relies on the CCP to ensure that counter-parties perform as expected. The CCP becomes a critical component during market price swings, asset class scandals and CCP members face market, internal operational or technology challenges. CCP require broad business expertise and technology platforms to enable their ability to recognize, address, contain and resolve these challenges before the “knock-on” impact on CCP other members?

The industry, as well as regulators, continues to address these as well as other issues. It would be helpful for all market participants and regulators to identify and address these issues on a proactive rather than reactive basis.


What’s ideal CCP ratio for a marketplace, transaction or asset class?

Should the costs associated with a CCP be an issue?

What other CCP related issues are you concerned about?

Tuesday, September 10, 2013

BUY-SIDE - LEFT OUT IN THE COLD

Why has the Buy-side been left out of a process that reduces transaction volumes and protects the securities industry via time-tested risk mitigation processes?

That the buy-side doesn’t participate in the post trade date process, that protects street-side participants and ensures timely and accurate settlement, is an oversight by the industry as well as the regulators. Post trade processes evolved, from the early 1970’s, originally driven by the paper work crunch of the late 1960’s. Today these processes ensure that the industry is safe and capable of supporting substantial growth in trade volumes. These processes include trade comparison, trade netting and settlement.    

But the infrastructure only protects the street-side which leaves buy-side participants outside the process. In turn this exposes the street-side to risk of settlement failures and the need to process additional transactions volumes.

There are alternative methods of buy-side participation; one where the investor would become a member and participate directly. Another is having the investor’s Custodian or Prime Broker represent the investor and participate on their behalf. Both alternatives would require some accommodation by the industry infrastructure and the Buy-side but it would be a “win-win” for everyone.

What are your thoughts?

Do you agree…..or…… disagree?

                             What are the benefits or disadvantages?