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By Ajoy Gonsalves
In 2022, CSDR introduces a new Settlement Discipline Regime (SDR) to establish a set of shared requirements for central securities depositories (CSDs) operating securities settlement systems across the EU. The SDR further harmonizes certain aspects of the settlement cycle and mitigates settlement risks.
The SDR under the CSDR impacts all businesses, irrespective of their global location, that trade in securities that will ultimately settle at an EU-domiciled CSD. The SDR requires businesses to implement measures to lessen settlement delays. It also endorses straight-through processing (STP) to maintain high settlement rates. For trades that fail to settle, the SDR will impose daily penalties or charges as well as mandatory buy-ins.
CSDR penalties were introduced to enhance the safety, efficiency, and smooth functioning of the securities settlement processes in the EU. They aim to reduce the number of failed trades and improve overall settlement discipline, thereby mitigating systemic risk in financial markets.
CSDR penalties are typically triggered by settlement fails, which occur when a financial transaction is not completed on its scheduled settlement date. Causes for settlement fails can include administrative errors, liquidity issues, or problems in the trade matching process.
CSDR penalties apply to a range of market participants, including investment firms, credit institutions, and central securities depositories involved in the securities settlement process. Essentially, any entity that is part of the trade settlement chain can be subject to these penalties in the event of a settlement fail.
U.S. Bank Global Fund Services is a subsidiary of U.S. Bank, N.A. It offers custody and lending services. The Global Fund Services (Ireland) Limited is registered in Ireland and is authorized and regulated by the Central Bank of Ireland under the Investment Intermediaries Act, 1995.
U.S. Bank Global Fund Services (Guernsey) Limited is licensed under the Protection of Investors Law (Bailiwick of Guernsey), 1987. It's regulated by the Guernsey Financial Services Commission to conduct controlled investment ventures in the Bailiwick of Guernsey.
U.S. Bank Global Fund Services (Luxembourg) S.a.r.l. is registered in Luxembourg. It is authorized and regulated by the Commission de Surveillance du Secteur Financier.
U.S. Bank does not guarantee products, services, or performance of its affiliates and third-party providers.
The SDR under the CSDR applies to all transactions intended to settle on an EEA CSD which are traded on an EU trading venue or cleared by an EU CCP. These transactions can include transferable securities, money-market instruments, units in collective investment undertakings, and emissions allowances. Shares with a principal trading venue located in a 3rd country are excluded.
The SDR applies to all trading level entities - regardless of domicile - whether directly as CSD participants, or indirectly via a settlement or clearing agent. This new regime will require new processes that will result in cost, liquidity, and risk challenges. This is where groups like Euroclear, as the largest group of CSDs in the EU, bring value to their clients.
The cash penalty regime under CSDR came into force from 1 February 2022. Cash penalties will be imposed by the CSD on the participant within the CSD responsible for settlement fail. Where the settlement fail is not due to the fault of the participant, it may seek to pass on such cash penalties to other entities in the settlement chain.
Fund management companies should engage with relevant stakeholders to establish whether cash penalties may be borne by the fund and if so agree on a framework on how cash penalties will be allocated.
The Settlement Discipline Regime (SDR) introduces new rules for cash penalties and buy-ins. Its scope is extraterritorial since all market participants, regardless of domicile, are impacted when trading and settling securities issued and held in EEA CSDs.
Securities trades that fail to settle on an EEA CSD will be subject to a penalty charged by the EEA CSD. If the trade is unmatched, the trade will be subject to a "late matching penalty" imposed on the participant that fails to submit matching instructions. If the trade fails to settle due to missing security or cash payment, the trade will be subject to a "late settlement penalty".
As the CSDR Settlement Discipline Regime (SDR) came into force on 1 February 2022, it is important that asset owners and managers are aware of and compliant with this regulation. Businesses must ensure that their management of settlement instructions includes all the information required by the CSDs, notably the implementation of reporting for the new penalty and buy-in regime requirements.
Certain types of transactions or circumstances may be exempt from CSDR penalties. For example, specific types of securities or trades executed under certain conditions might be exempt. Market participants should consult the detailed regulations or seek legal advice to understand any applicable exemptions.
The introduction of CSDR penalties has led to changes in market practices. Participants are now more diligent in their settlement processes, with increased focus on pre-matching trades and ensuring liquidity. There's also a greater use of automated systems to track and prevent potential settlement fails.
To comply with CSDR and avoid penalties, organizations should:
In conclusion, the Central Securities Depositories Regulation (CSDR) and its Settlement Discipline Regime (SDR) play a crucial role in enhancing the safety and efficiency of securities settlement and the settlement infrastructures within the European Union (EU). As the regime is now in effect, businesses worldwide must adapt their processes to comply with the new rules and avoid potential penalties.