The International Securities Lending Association (ISLA) has responded to the European Commission consultation regarding proposed amendments to settlement discipline provisions of the Central Securities Depositories Regulation (CSDR).
The Commission has put forward these changes under amending Regulation 909/2014 (EU).
This CSDR Refit has proposed amendments to Article 7(2) of CSDR such that in situations where a settlement fail cannot be attributed to the trading participants, or a transaction does not involve two trading parties, then a settlement penalty should not be applied.
ISLA indicates that it supports proposed amendments to Article 7(2) — recognising that some settlement fails may result from technical system failures at the CSD, for example, and that it may not be appropriate to apply penalties in these circumstances. A number of CSDs have reported technical difficulties when applying penalties since the Settlement Discipline Regime was enacted in February 2022.
ISLA questions the decision to exclude settlement activity that does not involve two trading parties, believing that this may lead to an unfair distribution of fail penalties. ISLA members note that fail chains may involve settlement activity that is not directly linked to a trading relationship and that settlement penalties should encourage efficient settlement across all types of transaction wherever appropriate.
More broadly, ISLA advises that penalty rates should be applied consistently across the same instruments, regardless of trading location. The application of different penalty rates across different markets may create problems, for example, where some components of a transaction are executed on a trading venue while others are conducted over-the-counter.
When first proposed, the SDR included plans to introduce settlement fines and a system of mandatory buy-ins for settlement counterparties that fail to provide timely delivery of required securities. In response to industry lobbying , the Commission took a decision to postpone the introduction of MBIs when the SDR was enacted in February 2022. However, under a ‘two step approach’ the Commission indicated that MBIs may be introduced at a later time if fail rates do not improve within the European Union.
In this context, ISLA advises that securities finance transactions should be removed from the scope of the buy-in requirement, indicating that MBIs may impair the benefits that SFTs may deliver in promoting liquidity and ensuring the smooth functioning of capital markets.
In gauging the need to introduce MBIs, ISLA advises that the Commission should consider “recalibrating” penalties rates as a first step to see whether this delivers improvements in settlement efficiency. It should then allow a “significant period” for this recalibration to take effect before deciding on whether MBIs should be introduced.
It also draws attention to the ongoing work being done by trade associations to encourage improvements in settlement efficiency, for example through use of auto-partialling and through guidance on tighter cut-offs for new loans and returns.
