A new report from research and consulting firm Celent, produced in conjunction with trade message firm SWIFT, shows major discrepancies among market participants in their readiness for T2S, the initiative launched by the ECB to transfer the securities settlement function to a common technical platform.
The main benefit of T2S is expected to be a reduction in costs for central securities depository (CSD) infrastructure and custodian back offices resulting from the introduction of a single settlement engine. Preparation for this eventuality is, however, uneven across the securities industry.
“While most market participants have a good high-level understanding of the T2S platform, there are some significant gaps in the industry’s T2S adaptation plan,” says Axel Pierron, the author of the report, The European Post-Trade Ecosystem under T2S: Dealing with Complexity.
CSDs and custodians are the most advanced in their preparation, but the report points out other market participants that will be impacted to a lesser extent, such as banks and broker/dealers, are still navigating the complexity of T2S.
“Market participants will have to operate in an ecosystem that relies on disparate messaging formats, and where many local specificities remain,” the report reads. “This situation not only generates additional cost, but also raises some concerns about the operational risk incurred by market participants in case of communication failure and mismanagement.”
The report identifies three main connectivity scenarios for financial intermediaries: indirect connectivity to T2S; direct connectivity to T2S for settlement, but using an external provider for asset
servicing; and implementing a full self-settlement approach and custody activity. “It is important to note that these options are not exclusive from one another, and that a mix of them is very likely to be implemented by financial intermediaries (FIs),” the report suggests.
According to the report’s findings, the level of investment required to adapt a back office to the T2S ecosystem will range from €7 million for a market player that modifies its existing system using a communication hub plus adaptation layers to as much as €27 million for a player revamping its back office systems for both settlement and custody.
“In our analysis we found that, with less than one million settlement orders per annum to go direct with T2S, this volume is likely to be insufficient to achieve any breakeven point, even in the long run,” the report argues. “Hence financial institutions with a volume of settlement orders below that level should consider keeping a post-trade arrangement in which they hand over their post-trade activities to an external provider.”
The report identifies one of the key pain points in the T2S adaption scenario as the fragmented nature of the European post-trade ecosystem and the coexistence of different market practices and messaging formats. “This situation is increasing the complexity that market participants will have to deal with, notably around network management,” the report contends. “Our analysis shows that there are still some significant gaps on the road to T2S, and we expect current projects to be revised and amended as market participants progress on their journey.”