Strate’s Head of Risk, Dale Connock, was recently approached with questions from the Africa & Middle East Depositories Association (AMEDA) on the CSD Settlement Guarantee. Here is what he had to say:
Q:Do we offer a security settlement guarantee in our various jurisdictions?
While not specifically a settlement guarantee, our market works on the principle of Simultaneous Irrevocable Delivery versus Payment (SFIDvP), which means that only those transactions that are ready to be settled are, in fact, submitted for settlement. The South African market has not had a single failed on-market transaction since the introduction of Strate.
Q:If we do what mechanism do we use and how is it performed?
Practically, we (the CSD) are able to see whether the participant (acting on behalf of the seller) has sufficient securities of the particular kind held in their account in the CSD to fulfil their obligations in respect of a particular transaction. They are required to formally “commit” to settling the transaction on behalf of their underlying client. This “commit” becomes irrevocable at a point in time prior to settlement day, thereby assuring the delivery of the securities.
Independently, the participant acting on behalf of the buyer, is required to “commit” to paying the necessary funds on settlement day. Although the CSD does not actually have a view of the cash it does have the necessary commitment from a bank to deliver the cash on settlement day. As the cash always moves first (in a net cash movement at Central Bank level), securities would only move once confirmation has been received that the cash has settled.
Q:Do we have a buy-in or fail management procedures and how is it done?
There is a formal buy-in / fails management process run by the Settlement Authority (a division of the JSE) that covers all broker on-market transactions. To the extent that a participant refuses to accept the liability for settlement for one of their underlying clients, the broker that introduced the transaction is required to stand good.
This involves what we call “reverse substitution” whereby the broker is required to assume responsibility for ensuring that the transaction settles on due date. The broker then has recourse to their underlying client for any damages suffered.
Q:How is our guarantee fund funded?
The Guarantee Fund in the South African market is there to protect clients of the Broker / Member from a default on the part of that member. The fund was originally funded by a levy placed against the broker / member and is based on the volume / value of transactions processed by that member. Once the fund reached critical mass the contributions were suspended.
Q:What is your organisation’s liability or responsibility in a participant default scenario?
Strate does not assume principal risk in any of the transactions it settles. The impact from an operational perspective would, however, be significant.