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The impact of the creation of CSDs in CEECs. Implications for Armenia.

The impact of the creation of CSDs in CEECs. Implications for Armenia. Karine THEMEJIAN (ECB) Dominique CHABERT (University Lyon 2 / GATE UMR 5824 – CNRS) The views expressed herein are solely those of the authors and do not represent the views of the European Central Bank.

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The impact of the creation of CSDs in CEECs. Implications for Armenia.

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  1. The impact of the creation of CSDs in CEECs. Implications for Armenia. Karine THEMEJIAN (ECB) Dominique CHABERT (University Lyon 2 / GATE UMR 5824 – CNRS) The views expressed herein are solely those of the authors and do not represent the views of the European Central Bank

  2. General framework • Market infrastructures: critical component of operational efficiency of markets • Focus on one of the components of financial infrastructure: CSDs as « organic links » between issuers and investors

  3. Purpose of our presentation • Present the impact of the creation of CSDs in CEECs • Examine the impact of these post-market infrastructures on the development of securities markets and the economy in general • Derive implications for the Armenian case

  4. Outline • The role of CSDs as stabilising institutions for markets (1) • The implementation of CSDs in CEECs (2) • Implications for Armenia (3)

  5. 1. CSDs functions within a domestic area: post-market stabilisation • CSDs : a « double-sided market » with: • A link to the issuer • A link to investors Issuers CSD Investors

  6. CSDs functions within a domestic area: post-market stabilisation • CSDs as « notaries » for securities: • Keep record of the securities issued in the country where they operate; • Testify to the authenticity and the existence of outstanding securities • CSDs as a « securities carrier »: • Operate one or several SSSs and ensure the circulation of securities within the market • Ensure the traceability of securities flow in a dematerialized environment

  7. CSDs functions within a domestic area: post-market stabilisation

  8. Central Banks Hold central accounts of commercial banks Operate the interbank systems and notably the RTGS CSDs Hold central accounts of custodians Operate the SSS CSDs functions within a domestic area: post market stabilisation

  9. CSDs functions within a domestic area: post market stabilisation • A central and ultimate custodian for issuers and investors • A central hub for securities flows • For issuers & for investors • For market users, banks and investment firms…but… • …not a « Central Bank for securities » ! • CSDs are not securities issuers • CSDs do not certify the stability of securities • CSDs are not « lender of last resort »

  10. CSDs functions within a domestic area: post market stabilisation • CSDs, like Stock Exchanges, can be demutualized Source: Karyotis,2005

  11. CSDs functions within a domestic area: post market stabilisation • CSDs and SSSs: important features of a « financial territory » • Like payment systems, SSSs constitute a tool for the operational efficiency of markets i.e. create the conditions ofrelationships between issuers and investors with conditions of: • security • rapidity • cost

  12. CSDs functions within a domestic area: post market stabilisation • SSSs cannot be reduced to their technical components. They represent a critical element of the issuance and circulation of property rights. • CSDs as « post-market » centralized actors are not only « back-office » actors.

  13. International standards and recommendations for SSSs (1/3) • International initiatives • Private sector level: G30, FIBV, ISSA • Public sector level: CPSS and IOSCO with notably Recommendations for SSSs (2001) • risk-based approach • covers all countries • But, need to take into account specificities linked to the particular context within a country

  14. International standards and recommendations for SSSs (2/3) • At the European level • Standards for securities clearing and settlement in the European Union • Developed by the ESCB in cooperation with CESR • Consists in Europeanisation of CPSS-IOSCO recommendations • Standards for the use of EU SSSs in ESCB credit operations

  15. International standards and recommendations for SSSs (3/3) • For emerging/transition economies: Guadamillas & Keppler (2001): seven features for evaluation • Clearing and settlement process • Settlement risks • Legal issues • Regulatory oversight • Clearing and settlement institutions • Safeguard policies • System capacities

  16. 2. The implementation of CSDs in CEECs • Criteria for assessment: • Guadamillas and Keppler (2001) • Level of consolidation of the post-trading infrastructure, enabling to reap benefits of • Economies of scale • Economies of scope • Network effects • Countries examined • 8 CEECs new Member States of the EU (since 1 May 2004) • 2 Accession countries

  17. The implementation of CSDs in CEECs • Level of consolidation: progresses achieved at varying degrees. 3 main situations: • Single CSD acting as central register, clearing and settlement agent for private securities and public shares • Bicephalous organisation, distinguishing between a single CSD for private securities and the NCB acting as central depository for Government bonds • CSD acting as central depository only, besides other SSSs and the NCB

  18. The implementation of CSDs in CEECs • Criteria defined by Guadamillas and Keppler (2001) • Clearing and settlement processes: general compliance with some exceptions • Legal soudness: difficulty to assess • Settlement risks: Most of the countries implement DvP schemes (majority DvP model 1)

  19. Settlement of transfer instructions Final transfer of securities and funds Potential risks Model 1 Gross basis Simultaneous settlement of individual securities transfer instructions and associated funds transfer instructions High fail rates (linked to the need to maintain important money and securities balances) with consequences on replacement cost risk and liquidity risk Model 2 Gross basis for securities Net basis for funds Final transfer of securities throughout the processing cycle; Settlement of funds transfer on a net basis with final transfer at the end of the processing cycle Principal risk (if no additional safeguard) Replacement cost risk and liquidity risk, but reduced thanks to the possibility to settle funds transfer on a net basis Model 3 Net basis Simultaneous settlement at the end of the processing cycle Principal risk may occur Replacement cost risk and liquidity risk Settlement bank failure if accounts are not held at a central bank Potential for high liquidity pressures Unwind

  20. The implementation of CSDs in CEECs • Criteria defined by Guadamillas and Keppler (2001) • Regulatory oversight: all SSSs are subject to some form of regulation • Clearing and settlement institutions and their participants: no undue restriction • Safeguard policies: various risk control measures in place • System capacities: progress in the implementation of back up and disaster recovery facilities

  21. The implementation of CSDs in CEECs • Most of these infrastructures comply with the minimum criteria • To what extent has the compliance with international requirements enabled a significant development of markets and the economy?

  22. The implementation of CSDs in CEECs • Overview of market and post-market activity over the past ten years

  23. The implementation of CSDs in CEECs • A relatively low level of market capitalisation

  24. Country Growth rate of volume of transactions on Trading platforms Growth rate of volume of instructions CSD Global growth rate Average growth rate Global growth rate Average growth rate Estonia + 32 % + 3,5 % + 125 % + 10,6 % Hungary + 359 % + 21 % + 302 % + 19 % Latvia + 812 % + 32 % + 229 % + 16 % Lithuania + 679 % + 29,3 % + 1083 % + 36 % Poland + 110 % + 9.7 % + 60.3 % + 6.1 % Slovakia + 1472 % + 41,1 % + 1070 % + 35 % Slovenia + 169 % +13,2 % + 163 % +12,9 % The implementation of CSDs in CEECs Growth rates of volume of transactions on SEs and of volume of instructions handled by CSDs / SSSs Source: from ECB, 2006, Blue Book, addendum,

  25. The implementation of CSDs in CEECs • In all countries, a growing trend in market activity and settlement instructions held by CSDs

  26. Securities issues and securities registered between 1996 and 2004 (average annual growth rate) Value of new issues / securities issued Number of new issues / Number of securities issued Value of securities registered Number of securities registered New member states (CEEC countries only) Czech Republic (val: 1996-2004 / Vol: 1999-2004) 13.46 % 12.5 % Estonia (2000-2004) 58.4 % 80 % 34.4 % 128 % Latvia nav nav 23.1 % 4.53 % Lithuania nav nav 13.12 % - 7.16 % Hungary 22.8 % - 23.16 % Slovenia 24.7 % 17.6 % Slovakia (97-04) BSSE + CSD 51% 60 % 25.5% 19 % Poland KDPW Poland SKARBNET Poland SEBOP Value of securities issued and registered Number of securities issued and registered 38.78 % 19.81 % 2.24 % 31.6 % - 0.25 % - 7 % 7.11 % - 9.3 % - 0.25 % - 32.8 %

  27. Accession countries Bulgaria CDAD (97 – 04) Bulgaria GSD nav nav 8 % - 52.5 % 13.9 % - 13.9 % Romania BVB GSS Value of securities issued and registered Number of securities issued and registered 149 % 21.7 % 27.8 % 6.2 % Securities issues and securities registered between 1996 and 2004 (average annual growth rate) Source : data from ECB, Blue Book

  28. The implementation of CSDs in CEECs • In most countries under review, CSDs’ activity in volume & in value of transactions handled went along with the development of the volume of transactions on stock exchanges • A covariation sometimes blurred by the coexistence of several SSSs (for instance when the Central Bank operates a specific system for public bonds)

  29. The implementation of CSDs in CEECs • In most countries, a significant growth of securities issued and securities registered at the national CSD • IPO’s and privatisation process • Development of mutual funds and pension funds • But, still a shy development • Privatisations have created a flow (not always with the expected effects) • Investment portfolios by non-residents still low

  30. The implementation of CSDs in CEECs • The case of Baltic markets • The Baltic list • The links with OMX Group

  31. The implementation of CSDs in CEECs Volumes of trading transactions & of settlement instructions In grey : arithmetic scale In white: semi-logarithmic scale Data: from ECB, Blue Book

  32. The implementation of CSDs in CEECs Volumes of trading transactions & of settlement instructions In grey : arithmetic scale Data: from ECB, Blue Book In white: semi-logarithmic scale

  33. The implementation of CSDs in CEECs Volumes of trading transactions & of settlement instructions In grey : arithmetic scale Data: from ECB, Blue Book In white: semi-logarithmic scale

  34. The implementation of CSDs in CEECs Market value of trading transactions & of settlement instructions In grey : arithmetic scale Data: from ECB, Blue Book In white: semi-logarithmic scale

  35. The implementation of CSDs in CEECs Market value of trading transactions & of settlement instructions In grey : arithmetic scale Data: from ECB, Blue Book In white: semi-logarithmic scale

  36. The implementation of CSDs in CEECs Market value of trading transactions & of settlement instructions In grey : arithmetic scale Data: from ECB, Blue Book In white: semi-logarithmic scale

  37. The implementation of CSDs in CEECs • Development of several arrangements with OMX Group over the past few years: • Estonian’s CSD (ECSD) is part of the OMX group • Riga Stock Exchange (RSE) is owned by OMX group • Project of a single settlement platform • The stake of a connection with • A « mature » trading plateform to improve liquidity • CCPs and CSDs to improve post-markets processings

  38. The implementation of CSDs in CEECs

  39. The implementation of CSDs in CEECs • Link between Portfolio investment and market infrastructures • Levelling of markets and post-market infrastructures (DvP, RTGS…): components of the « check list » of international investors • Market infrastructure: an « operations centre » for traceability and monitoring

  40. The implementation of CSDs in CEECs • Market infrastructures do not « make » market but… • …are a pre-requisite for connecting with mature markets and contributing to create liquidity

  41. The implementation of CSDs in CEECs • The creation of CSDs has enabled to create the conditions to a shift towards a « secure securities economy ». • CSDs are also, with other market infrastructure, decisive actors: • They enable to attract foreign investors who would not invest in « CSD less » countries • They enable issuers to have confidence in the registry of securities issued • They build, with Central Banks, a link between the securities world and the cash world for repos operations

  42. 3. The financial reform in Armenia • Independence of the Republic of Armenia on 21 September 1991 • Mass privatisation process started in 1995 • USAID Capital markets development project • In cooperation with Armenian actors • In two phases (Jan. 1998 – June 2001 and May 2002 – May 2005)

  43. The financial reform in Armenia • 2 main actors in the post market infrastructure • The CBA Government Securities Accounting and Settlement System • For settlement and central custody of Government securities • implemented in 2000 and enhanced in 2004 with the addition of a secondary market module securing final settlement for transaction according to the DvP principle • Since 2005: implementation of the Armenian Stock Exchange FOREX Operations Settlement System (settlement performed by the CBA)

  44. The financial reform in Armenia • The Central Depository of Armenia • Processus of consolidation around one depository (1996 – 2000) • Non commercial, not-for profit organisation • Functions • For corporate securities • Central custody, central registry, clearing and final settlement agent

  45. Impact of the reform (1/2) • Processus of consolidation • Progress towards centralisation around two poles • Further room for consolidation • Assessment against the criteria defined by Guadamillas and Keppler (2001) • Clearing and settlement processes: T+0 • Settlement risks: DvP model 3 • Legal soundness: difficult to assess

  46. Impact of the reform (2/2) • Assessment against the criteria defined by Guadamillas and Keppler (2001) • Regulatory oversight: CBA • Clearing and settlement institutions and their participants: no undue restrictions • Safeguard policies: guarantee funds • System capacities: back up procedures

  47. Recommendations for the future (1/3) • Based on information found on the Internet. • More than recommendations, paths that could be considered for the future development of Armenian infrastructures • Proper recommendations could only be derived after a mission is lead on site • Optimising the depository / registrar system • Consolidation of the infastructures to offer wider service to investors and benefit from scale and scope economies

  48. Recommendations for the future (2/3) • Strengthening the financial and operational soundness of the CSD • Developing the attractiveness for international investors • improve settlement efficiency • Implement DvP model 1 or 2 • Enhance the level of information in English • Develop cooperation with other markets • Create a CCP

  49. Recommendations for the future (3/3) • Creating the conditions for a a structural demand of securities: • Pension funds, mutual funds as « catalysts » of a securities demand • Few listed companies as « benchmarks » • On the local market • On an other mature market

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