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The T2S Opportunity Unlocking the Hidden Benefits of TARGET2-Securities

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The T2S Opportunity Unlocking the Hidden Benefits of TARGET2-Securities The T2S Opportunity Unlocking the hidden benefits of TARGET2-Securities Analysis commissioned to and conducted by Table of contents Executive summary ....................................................................................3 Introduction .................................................................................................4 1 Regulation increasing pressure on post-trade economics ..................7 2 Optimising economics on post-trade infrastructures ..........................8 3 Assessing the opportunity for market participants ............................13 Broker-dealer case study ...............................................................14 Global custodian case study ...........................................................16 Regional bank case study ...............................................................18 4 Why act now? .......................................................................................20 5 Conclusion ............................................................................................22 Glossary ....................................................................................................23 Sources .....................................................................................................24 About TARGET2-Securities (T2S) .............................................................25 About us & Contacts ................................................................................26 September 2014 3 Executive summary Regulatory constraints and resulting This study focuses on the T2S benefits The potential savings arise when capital, funding and cost pressures that banks can unlock by consolidating comparing a starting point with no continue to force banks to reengineer their securities and cash holdings in direct infrastructure accounts, no their business models. While trading Europe directly on CSDs and central central bank access for settlement and and clearing operations are being banks, thereby being able to: fragmentation of cash and securities actively restructured, banks are 1. delayer settlement-related across the EUR markets with a target missing out on untapped optimisation exposures; state that makes full use of T2S with opportunities in the post-trade area, 2. pool collateral for settlement but centralised access to the infrastructure particularly in the highly fragmented also triparty purposes; and central bank money for settlement. European market. 3. net more cash settlements; Savings numbers are to a significant 4. simplify operations. extent savings over future costs that will The European Central Bank’s arise because of regulatory pressure TARGET2-Securities (T2S) initiative is Quantitative case studies show that shaping the industry. addressing this fragmentation. T2S banks can realise significant capital, will trigger fundamental changes in funding and operating cost savings by As a prerequisite for achieving the full the post-trade landscape, far beyond delayering and consolidating assets. benefits, banks need to fundamentally the initial scope of pan-European Based on conservative assumptions, rethink and change their current settlement in central bank money, the study estimates the savings operating models in the post-trade and enable cost efficiencies which potential in three high-level area, particularly around settlements. banks must consider to support their case studies: Given planning, budget and savings agendas and stay competitive − A broker-dealer with EUR ~100 bn implementation cycles, banks need to with other market players who are trading assets & liabilities across take action now to unlock the potential acting to reap benefits from T2S. T2S major T2S markets could save up in time for T2S going live and the will enable banks which take action to EUR ~70 mn; regulations fully kicking in. As T2S will to reap significant benefits from − A global custodian with EUR ~400 bn impose adaptation costs on market consolidating assets, direct access in assets under custody (AuC) across participants in any case, there is a and use of central bank money. major T2S markets could save up to window of opportunity to leverage the EUR ~50 mn; change to achieve the full savings These efficiencies will play an − A regional bank with EUR ~140 bn in potential of consolidating assets. important role in unleashing the wider securities deposits across major T2S macroeconomic benefits from markets with a home market bias This study was commissioned to and integrating European securities could save up to EUR ~30 mn. supported by Oliver Wyman. The markets, building on the creation of underlying market analysis and expert the Euro and joint interbank payment The case studies have been validated interviews were conducted between system TARGET2. in interviews with market participants. March and August 2014. The study Nevertheless, sizing the actual savings summarises the findings as a basis T2S will go live in 2015 with four major potential for any given institution for further discussion. on-boarding phases for the participating requires a detailed analysis of the central securities depositories (CSDs) specific settlement portfolio and from June 2015 to February 2017, operating model. In addition to cost with the majority of the volume being efficiencies, a more consolidated T2S migrated in 2016, bringing benefits model can provide further benefits to soon for early adopters. Institutions banks, increasing stability and reliability which delay a proactive T2S strategy of post-trade operations, reducing risk being hindered by their current operational complexity and risks. providers and losing their competitive edge as savings accrue to first-movers. Banks should act now – or they risk missing out on the T2S opportunity. 4 The T2S Opportunity Introduction The aftermath of the financial crisis has brought in Europe are adding substantial new requirements1. with it an unprecedented wave of regulation. A The stream of incoming regulations increases risk- clear agenda was agreed for a coordinated global and leverage-based capital requirements, demands approach to financial regulation at the G20 meeting significant liquidity buffers and stable funding in Pittsburgh in September 2009, with a focus on sources, introduces substantial collateral strengthening the international financial regulatory requirements and creates additional operating costs system, increasing transparency and stability, and associated with regulatory compliance (see Exhibit 1 lowering systemic risks. An ambitious programme for illustration). Furthermore, perceptions of risks was launched to address major deficiencies in the have shifted due to the failures of large financial global financial system. institutions and instabilities in the interbank market. As a result, banks are being forced to fundamentally The global regulatory agenda is putting pressure on rethink and restructure their business portfolios and the economics of banks of all sizes. Regulations operating models. such as Basel III (CRD IV), EMIR, AIFMD and UCITS V Exhibit 1: Overview of key constraints and regulations affecting financial institutions Risk-based capital Leverage-based capital requirements requirements Business portfolios of financial institutions Collateral Operating requirements cost pressure Liquidity rules Banks have kicked off a series of initiatives in attention from market participants. By reducing response. The initial focus has been placed on front complexities and exposures in their settlement, office activities such as trading and capital market safekeeping, asset servicing and collateral portfolios, where some of the largest capital, balance management activities, banks can realise additional sheet and liquidity efficiency gains can be realised. cost and risk reductions. This study highlights untapped opportunities in the post-trade area which so far have received less 1. Please refer to the Sources section on page 24. September 2014 5 The most significant opportunities to improve post-trade efficiency can come through the transformation of European operations. The European post-trade landscape is currently characterised by high fragmentation and layers of intermediation which create complexities and inefficiencies, as well as associated risks and costs. As a result, market participants can optimise their post-trade economics by pulling four key levers: 1. Delayer settlement-related exposures: Holding securities directly at infrastructure level and settling directly in central bank money can reduce credit and operational risk, lower capital requirements, increase safety and stability (particularly in times of market stress), and enable banks to benefit from direct access to central banks and their credit facilities. 2. Pool settlement collateral: Consolidating collateral for settlement credit lines reduces the need for buffers across markets and thereby lowers funding and collateral needs as well as capital, balance sheet and liquidity consumption. Additional benefits can be achieved by pooling settlement and triparty collateral pools used for collateralisation of derivatives, securities financing transactions, etc. 3. Net settlements: By netting offsetting cash payment flows across markets, participants can further reduce settlement lines, collateral needs and associated funding and capital costs. 4. Simplify operations: By accessing the settlement and safekeeping infrastructure through a reduced number of access points, market participants can reduce operational risks,
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