The benefits of T2S
Transacting in European securities requires settlement capabilities across Europe’s Central Securities Depositories (CSDs). With T2S, CSDs outsource the ‘versus payment’ movement of securities and central bank money to a technical settlement platform run by the European Central Bank. Consequently, T2S brings a standardised settlement system and process to European markets.
T2S has delivered some clear benefits:
- Harmonisation which has improved interoperability and delivers collateral and liquidity efficiencies
- Standardisation with a single settlement day across markets which gives economies of scale, reduces risk and supports regulatory compliance (with Central Securities Depositories Regulation)
- Reduced settlement risk from true integrated ‘versus payment’ settlement in central bank money
- Settlement efficiency of 98% through new functions such as auto collateralisation, partial settlement and ‘hold and release’
- Stability and capacity with a daily average of 600,000 transactions and headroom for growth (as can be seen from the night-time settlement cycle generally completing by 11pm)
- Ancillary benefits in asset servicing where the roll-out of T2S has pushed markets into compliance with market standards
Moving our infrastructures to the T2S platform has been a huge project. Expectations have been high. Not all have been met:
- The cost of settlement has not reduced. Indeed, it has increased. Even if this is explained by transaction volumes (lower than predicted at the launch of the project in 2010) and by the project’s high amortisation costs, it is disappointing
- Cross-border settlements (from one CSD to another) are easier and cheaper. However, they still account today for less than 1% of T2S transactions and hence are comparatively insignificant
- We do not yet have a single European capital market - issuers have continued issuing in the markets that they and their investors know best
- Competition between CSDs remains limited. Its impact on pricing is unclear as some CSDS have increased their asset servicing fees. Nor has competition led to consolidation of CSDs
- Settlement and asset servicing remain interdependent
Seeking more costs savings
T2S has high fixed and amortised costs, which are passed on to users on a per transaction basis. As full amortisation is not expected until 2029, the most effective way to reduce the headline cost per transaction (in the medium term) is to increase the number of settlements. Given the slim chance of the UK or Swiss markets joining T2S at this moment, any meaningful increase in volumes can only happen if European markets currently settling outside T2S (e.g. the Eurobond, fund or ETF markets) move to issuance and settlement within T2S. This cannot happen overnight.
Hence, those seeking to reduce transaction costs need to optimise their own operating models. Many have consolidated their activity with custodians that deliver a service combining the efficiencies of centralisation with the local market capabilities still required for clearing and asset servicing. Consequently, most market participants have retained their agent bank for settlement services.
Custodians have developed their ‘account operator’ services so that these benefits can be delivered to clients holding their securities in their own accounts at CSDs.
Custodians have also extended their services to support clients settling their activity through their own central bank cash accounts. Clients may wish to do so in order to optimise liquidity management and benefit from the consequent capital requirements which may also include the balance sheet netting of repos.
Local connectivity and flexibility remain essential
T2S has delivered value – but not necessarily the value that was originally anticipated. In itself, it is unlikely to reduce costs however it has given rise to new models for settlement and custody. Each has advantages and disadvantages. Their relative merits depend upon the business profile of the financial institutions involved. In each model, the local connectivity and flexibility of a custodian remain essential to those transacting across T2S markets.
One thing about T2S is for sure, there is still plenty to talk about.