Operational Structure of European Multilateral Clearing Facility - Assignment Example

? Analysis of clearing houses Table of Contents Organizational Study 3 LCH Clearnet group 3 European Multilateral Clearing Facility (EMCF) 3 Depository Trust & Clearing Corporation (DTCC) 4 SIX Swiss Exchange 5 2. Operation summary 6 3. Historical Structure 9 4. Products and services 12 5. Comparison between the firms 13 Reference List 17 1. Organizational Study LCH Clearnet group The LCH Clearnet Group is a leading multi-national clearing house who serves major exchanges and platforms as well as a range of Over the Counter markets. LCH Clearnet also specializes in risk management operations, thereby following a world-class risk management framework that provides exceptional levels of protection to international markets, which is evident through the management of recent defaults. As demand for superior quality clearing services continues to rise, the company is committed to attaining the pinnacle standards of risk management across all asset classes cleared. London Stock Exchange Group, which is a diversified international exchange group based in London, England, is the majority owner of LCH Clearnet (LCH Clearnet 2013). Figure 1: LCH group organizational structure (Source: Federal Reserve 2011) European Multilateral Clearing Facility (EMCF) EMCF is a clearing house headquartered in Netherlands. Their line of operations includes equity trades that are done on multilateral trading facility throughout Europe or on designated stock exchange. The company was established after the Markets in Financial Instruments Directive (MiFID) regulations were passed by the European Union. This directive allowed competition of services provided by the clearing houses. EMCF played a significant role in bringing down the cost of clearing within Europe by competing directly with other established clearing houses, thereby forcing them to reduce prices. The company has been delivering the most translucent and expected pricing for CCP clearing services all over Europe (EMCF 2013a). Depository Trust & Clearing Corporation (DTCC) The Depository Trust & Clearing Corporation (DTCC) is a US post-trade financial services company that provides clearing and settlement services to their customers in the financial markets. The company provides a safe and efficient way for buyers and sellers of securities to conduct their exchange. In addition to that, they also provide central custody of securities. The primary function of the company is risk management and they have continued to do so since their inception about 40 years ago. The company is a combination of the Depository Trust Company (DTC) and National Securities Clearing Corporation (NSCC). With 40 years of experience, DTCC, through its subsidiaries, is the premier post-trade market infrastructure for the global financial services industry (DTCC 2013a). Figure 2: DTCC organizational structure (Source: The official board 2013) SIX Swiss Exchange SIX Swiss Exchange, formerly known as the SWX Swiss exchange, headquartered in Zurich, is one of the two primary stock exchanges in Switzerland. The company also trades other securities such as, Swiss government debt instruments and derivative instruments such as, stock options. Swiss Market Index (SMI) is the main stock market index for the company. The index mainly constitutes of the 20 most noteworthy equity-securities, evaluated on the basis of the free float market capitalization. SIX Swiss Exchange was the first stock exchange in the world known to have implemented a fully automated trading, clearing and settlement system in the year 1995 (SIX 2013a). SIX Swiss Exchange is also the joint owner of Eurex, the largest futures and derivatives exchange in the world, alongside their German counter partners, Deutsche Borse (SIX 2013b). The exchange has a blue-chip index as its principal stock market index. The Swiss Market Index (SMI) comprises of a maximum of twenty of the largest and most liquid large and mid-cap SPI stocks. Figure 3: SIX Swiss organizational structure The executive committee includes: (Source: Nobel Biocare 2013) 2. Operation summary LCH Clearnet group’s primary line of operations includes clearing a wide range of asset classes such as, securities, commodities, exchange traded derivatives, freight, energy, credit default swaps, interest rate swaps, foreign exchange derivatives as well as euro and sterling dominated debt instruments (such as, bonds) and repurchase able agreements. The company works in hand with the regulators as well as the clients in order to identify and enhance innovative clearing solutions (LCH Clearnet 2013a). The clearing house provides a strong and practical risk management services to its clients in order to meet its overriding objectives, which are to provide the clearing house members with a central counterparty of the superior quality and safeguard the interests of the company’s shareholders, thereby contributing towards the clearing funds (LCH Clearnet 2013b). The company provides cost effective and efficient services to its clients, which are supported by risk management actions and policies that are directed towards protecting the integrity of the cleared market as well as the interest of the participants. Mitigation and management of risk is the locus of their operations (LCH clearnet 2013c). The company has over 100 years of experience in field of commodity clearing and settlement services in both OTC commodity and exchange traded markets. LCH clearnet provides clearing services for commodities which includes plastics, non ferrous metals and steel which are traded over the London metal exchange. In addition to that, the company also provides clearing services for OTC products such as steel, iron and gold (LCH clearnet 2013c). EMCF monitors the volume that it settles in a central securities depository. In addition to that, it also monitors the costs of a direct central securities depository and settlement fees that are charged by the settlement agent. On a particular business day, EMCF calculates the minimum funding needs in each CSD and the additional funds are transferred to a CSD, as and when required. As a standard, EMCF follows the local market practice wherever possible for pre-market settlement matching. In most of the market where EMCF offers clearing services, pre-settlement matching is automated within the CSD. The company provides CCP services to 19 markets that spans over Europe through 10 Multilateral Trading Facilities and exchanges. The operations that the company is engaged in are gross trade setting, risk management and settlement and novation. These operations have been designed to cater to the needs of the clients, through constant consultation of market and client requirements (EMCF 2013b). The operational summary of EMCF can be best explained through the following diagram: Figure 4: Market setup (Source: EMCF 2013b) There are various market participants in the field of clearing and settlement services. The ones who are primarily responsible for the bulk of the European equity trading have direct access to EMCF. They can either access EMCF directly or can connect through via an intermediary in order to facilitate the usage of clearing services provided by EMCF. Thereafter the settlement for each and every particular market segment takes place in the domestic central securities depository (EMCF 2013b). DTCC delivers highly effective and efficient clearing services across the US fixed income and equity markets. Their operations are designed in such a way that reduces the risk exposure as well as the cost for clients, thereby ensuring the reliability and safety of the marketplace. The company settles all broker to broker equity, municipal and corporate bonds as well as unit investment trust transactions in the equity markets based in US, thereby implementing new initiatives and driving enhancement of services and products in order to reduce costs and develop the efficiency of processing for market participants. The company is also engaged in providing fixed income clearing services for the government securities division, mortgage backed securities division and the corporate, municipal and UIT division (DTCC 2013b). Over the last 40 years, the company along with its subsidiaries has been serving as the premier post-trade market infrastructure in the industry thereby advancing the centralization, advancement, standardization and streamlining of processes that are critical to market soundness and safety. Their primary operations include trading activity conducted all over the world thereby processing securities transactions worth trillions of dollars on a regular basis. Along with their subsidiaries, the parent company caters to simply the complexities that are associated with settlement, clearance, global data management and asset servicing. In addition to that, the company’s line of operations also includes providing information services for corporate and municipal bonds, equities, derivatives, government and mortgage backed securities, mutual funds, syndicate loans, alternative investment products, insurance transactions and money market instruments. The company leverages its own market position in order to foresee the future needs of the market thereby responding to situations in terms of providing solutions that are directed towards lowering costs, bring stability, enhance the efficiency and ensure certainty to the market that they serve (DTCC, 2013g). SIX Swiss Exchange handles all of the subsequent processes, once a trade is executed. The process encompasses clearing, custody as well as settlement and asset services. As far as clearing operations are concerned, SIX operates as a central counterparty for both buyers and sellers in the clearing of fixed incomes securities, equities, securities lending and commodity certificates. By doing so, the company manages to reduce the default risk of traders in the Swiss domestic market as well as on a number of trading platforms and international exchanges. SIX offers innovative and comprehensive services and solutions for securities settlement and custody in 65 markets all over the world, including Switzerland. It acts as a global custodian who caters to add value by providing additional services such as, the management of corporate actions, funds administration and a wide variety of securities finance solutions. Alongside the aforementioned operations, the company is also engaged in share register services and also, organizes general meetings for shareholders (SIX 2013c). 3. Historical Structure SIX Swiss Exchange The year 2008 saw three strong partners, SWX Group SIS Group and Tellekurs group joining hands together to form the Swiss Financial market. They began to operate in the same year under the brand, SIX Group, providing services in the areas like, securities trading, financial information and payment transactions. In the following year, Deutsche Borse AG and SIX Group acquired the shares which were held by the Dow Jones and company in STOXX limited that made them the sole owner of the index provider. The SIX Group took an Austria-based data processing business and integrated it into the new company, SIX Card Solutions Austria GmbH. This was an important step that made them the leading card processing business in Austria. In Luxembourg, the newly established SIX Group subsidiary began to offer cashless solutions throughout Europe. The group acquired 50% stake in the Luxembourg-based financial services provider, CETREL, in order to develop a leading international range of card-based payment solutions. In 2010, the SIX Group launched Terravis, which was the first electronic system that provided information related to real estate. It also speeds up the process between land registries, notaries and credit institutions. The SIX Swiss exchanges started to trade exchange traded products in the same year. In the year 2011, the exchange reported the second best operating margin over the course of the company's history. After opening of the European clearing market, SIX was able to process more transactions from outside the country, thereby increasing its clearing market share on the LSE. After the new trading platform was introduced in the year 2012, SIX had set new benchmarks as far as its capacity and speed in equities trading is concerned. By introducing more foreign trading platforms, the SIX clearing operation processes a much higher number of transactions (SIX 2013d). EMCF In the year 2006, a cluster of senior professionals from Fortis bank Group Clearing identified an opportunity to provide cheaper CCP clearing services than those already available. At that time, Instinet, a leading financial services company, was in search of a partner who would offer cost effective CCP services for Multilateral trading facility that it was developing. Following that, the MIFID, which was set to execute efficient cross-border trades, came into force in 2008. On March 2007, EMCF and Instinet had already started offering trading and clearing services through Chi X Europe and EMCF. Initially, shares listed in DAX and AEX indices were traded. However, later on, the services were expanded to CAC40, FTSE 100 and SMI 20 indices. The company growth rate exceeded expectations and later, additional markets and indices were incorporated to EMCF in the year 2008. Since then, the company has been working at initiating interoperability arrangement with a view to provide traders with a choice about where their trades are being sent for clearing. EMCF, headquartered in Amsterdam, is primarily supervised by the Dutch regulators. In February 2009, the company acquired regulatory acceptance in the UK by becoming a recognized overseas clearing house. The company has the lowest cost per transaction among any European CCP and continuously thrives to curtail the fees even further (EMCF 2011). DTCC DTCC, established in 1973, was formed to assuage the rising quantity of paperwork and lack of security that developed as a result of massive hike in the volume of transactions in the securities industry in U.S. Before DTCC was formed, certificates were exchanged physically between brokers who employed numerous messengers to carry the checks and certificates. The brokers use to rely on such mechanism heavily and use to keep records with pen and power. Such a mechanism of exchange was inefficient, difficult and increasingly expensive. The burden of paperwork became gigantic. Stock certificates were haphazardly piled and were mailed to wrong addresses or not mailed at all. Such inefficiency in this field called for the need of an organization for catering to all the clearing services with proper arrangements and as such DTCC came into being. In 2010, DTCC acquired all the shares of Avox limited. The company also entered into a joint venture with the New York Stock Exchange, which formed the resultant entity known as the New York Portfolio Clearing that would help clients to lower their margin costs by combining cash and derivative positions in one clearing house (DTCC 2010). LCH.Clearnet In 2003, the London Clearing house and Clearnet SA merged together to form the LCH.Clearnet Group. The new ownership distribution of the company was amongst Clearing Members (45.1%), Exchanges (45.1%), Euroclear (9.8%). In the year 2007, LCH.Clearnet announced its decision to buy back the shares held by Euronext in order the safeguard the interest of both the customers and shareholders. The new ownership distribution of the company is amongst Clearing Members (73.3%), Exchanges (10.9%), Euroclear (15.8%). The company successfully resolved Lehman Brother's OTC interest rate swap defaults worth of $9 trillion. They opened their first office in US in 2009. The dominant shareholders retired in the same year and were given the option of reducing or exiting their holding. In 2012, LSE got enough support to acquire 60% stake in LCH.Clearnet, offering them €19 per share, which rendered the company with a valuation of $1.1 billion. LCH.Clearnet acquired the sole ownership of International Derivatives Clearing Group in 2012, thereby strengthening its presence in the US. 4. Products and services LCH.Clearnet The products and services offered by LCH.Clearnet include commodity clearing and settlement services, Credit Default Swap clearing services, clearing services to the derivatives market, clearing services for the London International Financial Futures and Options Exchange (LIFFE), clearing and settlement services for the US electricity trading and OTC Emissions trading on the Nodal Exchange, equity clearing services, contract for differences (CFD) clearing services, clearing services for the fixed income markets, clearing services for the containerised freight market, OTC interest rate swaps clearing and settlement services as well as services covering the foreign exchange market (LCH Clearnet 2013d). EMCF The company offers a full range of CCP services that include trade receipt and validation, trade and settlement netting, novation, position management, settlement services, gross trade netting, risk management and default management. These services have been designed in order to suit the needs of the client through consultation of market and client requirements as well as the operational and legal framework. By providing these services, the company has been able to gain wide connection in markets, trading venues, products and clients (EMCF 2013b). DTCC The company offers clearing services, including equities clearing services, equity clearing and trade capture services, fixed income clearing services for the government securities division, the mortgage backed securities division and the corporate, municipal and the UIT division (DTCC 2013c). In addition, the company also offers settlement and asset services that include underwriting, issuer services, processing of corporate actions, securities processing, global tax services and trade information warehouse services (DTCC 2013d). Furthermore, DTCC also specializes in insurance and retirement services and wealth management services, global trade repository services, reference data services and performance measurement services (DTCC 2013e; 2013f). Six Swiss The services provided by the Six Swiss exchange include comprehensive multiproduct and multiplatform clearing services of the highest order. The company also offers CSD services for national and international securities. Liquidity and risk management services are another domain that the company specializes in. Besides that, the company also provides global fund services that include fund transfer, subscription and redemption, corporate actions, pricing and documentation and many more. The company also engages in share register services that serve the shareholders (SIX 2013e). 5. Comparison between the firms Table 1: Key figures 2012 SIX Swiss (in € 000) LCH. Clearnet (in € 000) DTCC (in € 000) EMCF (in € 000) Operating income 929,399 426,200 766,127 9,336 Operating profit 158,803 127,500 -13,187.9 -2,412 Net income 260,984 61,300 14,346.8 -1,777 Total assets 6,443,050 496,068.4 18,419,200 250,371 Return on equity 15.2 14.4 2.61 -8.10 Number of products/services 8 12 12 8 Types of products/services CSD services for national and international securities, Liquidity and risk management services, fund transfer, pricing and documentation, subscription and redemption, share register services. commodity clearing and settlement services, credit default swaps, derivative market clearing and settlement, CFD and fixed income market clearing services, OTC interest rate swap clearing and settlement, services spanning the foreign exchange market. equities clearing services, trade capture services, fixed income clearing services for government securities, MBS, corporate, municipal and UIT division, underwriting, processing of corporate actions, global tax services, trade information warehouse services, securities processing, issuer services, insurance & retirement services, global trade repository services, wealth management services. Clearing counterparty services, central securities depository services, trade receipt and validation, novation, settlement services, risk management, default management, position management. Differentiating factors Net income, asset value, return on equity Operating income, asset value, return on equity and services offered Asset value and services offered. Net income and return on equity (SIX, 2012; LCH Clearnet, 2012; DTCC, 2012; EMCF, 2012) Figure 5: Operating income and Operating profit Figure 6: Net income and total assets Figure 7: ROE As far as the performance of the companies in 2012 is concerned, SIX Swiss exchange and LCH.Clearnet performed relatively better than DTCC and EMCF. As is evident from the table given above, SIX Swiss exchange and LCH.Clearnet reported net incomes of € 260,984 and € 61,300 respectively, which is much higher than the net income of € 14,346.8 reported by DTCC in the year 2012. While the three abovementioned companies reported a net income, EMCF reported a net loss in the same financial year, indicating a severe deterioration of the company’s financial performance over the last year. The operating profit generated by SIX Swiss and LCH.Clearnet is also much healthier than that generated by DTCC and EMCF, where the last two companies generated an operating loss. This indicates that SIX Swiss and LCH.Clearnet has been able to manage their operating expenses effectively, by bringing down the expenses significantly compared to the other two companies. The total assets figure suggests that SIX Swiss and LCH.Clearnet are larger organizations compared to DTCC and EMCF. Considering the fact that SIX Swiss and LCH.Clearnet are larger organizations, they have been able to stably perform which is clearly evident from the noteworthy high return in equity of 15.2% and 14.4%, provided by the respective companies to their investors. There values are much higher when compared to a very nominal value of 2.61%, provided by DTCC and a negative value of -8.1%, reported by EMCF Recommendation Having done an in-depth study of the all the four clearing houses, it can be concluded that there are various benefits which are associated with availing services from these organizations. They cater to provide services to clients based all over the world thereby reducing the complexities associated with clearing and settlement of securities. As far as the services provided by LCH clearnet is concerned, clients can benefit from the innovative clearing and settlement services provided by the company which they conduct by working in accordance with the regulators as well as their clients. This helps the company to design and provide services that are appropriate to the needs of their customers. Clients can also benefit from the strong and practical risk management services provided by the company. Customers in the securities market can also benefit from the services provided by EMCF who provides rigid clearing counterparty services alongside providing central securities depository services that include trade receipt and validation, risk management, default management as well as position management. SIX Swiss exchange and DTCC also provides similar kind of services which ranges from commodity and equity clearing and settlement services to insurance and retirement services. The services offered by these companies are appropriate to the need of the market and the come with huge benefits in the form of ensuring the safety and soundness of the market. In the context of Bahrain Bourse which is a Bahrain based stock exchange, it can be said that the clearing houses can be of significant help to a stock exchange in which nearly 50 companies are listed. The stock exchange can benefit from the commodity and equity clearing and settlement services provided by these clearing houses thereby avoiding the complexities associated with the processing of such high valued transactions. Reference List DTCC. 2010. "An Introduction to DTCC." Accessed 20 December, 2013. http://3197d6d14b5f19f2f440-5e13d29c4c016cf96cbbfd197c579b45.r81.cf1.rackcdn .com/collection/papers/2010/2010_0701_DTCCServices.pdf DTCC. 2012. “The Depository Trust & Clearing Corporation.” Accessed 27 December, 2013. http://www.dtcc.com/annuals/2012/images/auditors-report/DTCC-Consolidated_Financial-Statements-Jai.pdf DTCC. 2013a. “About DTCC.” Accessed 19 December, 2013. http://www.dtcc.com/en/about.aspx DTCC. 2013b. “Clearing services.” Accessed 20 December, 2013. http://www.dtcc.com/clearing-services.aspx DTCC. 2013c. “Clearing Services.” Accessed 27 December, 2013. http://www.dtcc.com/en/clearing-services.aspx DTCC. 2013d. “Settlement and asset services.” Accessed 27 December, 2013. http://www.dtcc.com/en/asset-services.aspx DTCC. 2013e. “Investment Product Services.” Accessed 27 December, 2013. http://www.dtcc.com/en/investment-product-services.aspx DTCC. 2013f. “Data & Repository Services.” Accessed 27 December, 2013. http://www.dtcc.com/en/data-and-repository-services.aspx DTCC. 2013g. “DTCC's businesses, subsidiaries and joint ventures.” Accessed 1 January, 2014. http://www.dtcc.com/en/about/businesses-and-subsidiaries.aspx EMCF. 2011. "About European Multilateral Clearing Facility N.V. (EMCF)." Accessed 20 December, 2013. http://www.emcf.com/images/PressKit.pdf EMCF. 2012. “EMCF.” Accessed 27 December, 2013. http://www.emcf.com/upload/uploads/Annual%20report%202012%20final.pdf EMCF. 2013a. “About Us.” Accessed 19 December, 2013. http://www.emcf.com/about_us.php EMCF. 2013b. “Post Trade Service Description.” Accessed 20 December, 2013. http://www.emcf.com/upload/uploads/Post%20Trade%20Service%20Description%20ver%205%200.pdf Federal Reserve. 2011. “LCH.Clearnet Overview .” Accessed 1 January, 2014. http://www.federalreserve.gov/newsevents/rr-commpublic/LCH.Clearnet-ltd-meeting-20110929.pdf LCH Clearnet. 2012. “Proven risk management.” Accessed 27 December, 2013. http://www.lchclearnet.com/Images/LCH.Clearnet%20_Annual%20Report_tcm6-63079.pdf LCH Clearnet. 2013a. “About Us.” Accessed 19 December, 2013. http://www.lchclearnet.com/about_us/ LCH Clearnet. 2013b. “Setting the standards for Risk Management.” Accessed 20 December, 2013. http://www.lchclearnet.com/risk_management/ LCH clearnet. 2013c. “LCH.Clearnet: a general introduction to risk mitigation.” Accessed 20 December, 2013. http://www.lchclearnet.com/Images/LCH%20Clearnet%20-%20General%20guide%20to%20risk%20mitigation%20May-13%20v2_tcm6-63483.pdf LCH Clearnet. 2013d. “LCH Clearnet.” Accessed 27 December, 2013. http://www.lchclearnet.com/ Nobel Biocare. 2013. “Group structure and shareholders.” Accessed 1 January, 2014. http://nobel-biocare-annual-report-2010.production.investis.com/corporate-governance/group-structure-and-shareholders.aspx?sc_lang=en SIX. 2012. “Annual Report 2012.” Accessed 27 December, 2013. http://www.six-group.com/dam/about/downloads/annual-reports/2012/six-annual-report-2012-en.pdf SIX. 2013a. “Swiss Exchange.” Accessed 19 December, 2013. http://www.six-group.com/about/en/home/business-areas/swiss-exchange.html SIX. 2013b. “History – Former SWX Group.” Accessed 19 December, 2013. http://www.six-group.com/about/en/home/who-we-are/history/swx-group.html SIX. 2013c. “Securities Services.” Accessed 20 December, 2013. http://www.six-group.com/about/en/home/business-areas/securities-services.html SIX. 2013d. "History." Accessed 20 December, 2013. http://www.six-group.com/about/en/home/who-we-are/history.html SIX. 2013e. “Securities services.” Accessed 27 December, 2013. http://www.six-securities-services.com/en/home.html The official board. 2013. “The Depository Trust Clearing Corporation.” Accessed 1 January, 2014. http://www.theofficialboard.com/org-chart/the-depository-trust-clearing-corporation Read More