Blockchain is of enormous value
The CEO of the international CSD Euroclear discusses new technologies, cooperations, growth opportunities and industry regulations
The ICSD Euroclear wants to develop business within emerging markets and is focusing on the Blockchain technology for gold trading. Börsen-Zeitung has interviewed CEO Tim Howell at the Sibos conference, which took place in Geneva this year.
Mr. Howell, Euroclear has been connected to the European T2S settlement platform for three weeks now. How is it working for you?
The migration went very well, even better than expected. A lot of time, hard work and investments were required to reach this point. The systems are running as expected. Everything is running smoothly, and volumes should be absorbed in a stable environment. One of our main objectives now is to make sure that our client base will really benefit from the possibilities offered by T2S.
In the past, not everything went well, how about today?
The migration has been carried out as expected; everything was under control at all times. The touch points with the European Central Bank and the CSDs have been successfully mastered, they were controlled and professionally managed. Communication was a key factor – we have held more than 25 conference calls with clients to ensure a smooth migration. The Sibos conference in Geneva gave the impression that banks were not very enthusiastic about the implementation of T2S. T2S was created by the ECB eight years ago – there is a certain degree of tiredness when such an important infrastructure project requires so much time. This migration represents a significant step for T2S. The Euroclear CSDs are the biggest group on the platform, representing 40% of the outstanding volume in terms of corporate bonds, equities and funds and 30% in terms of government bonds. This is very positive from a client and supervisory point of view. T2S works and it works very well.
Meanwhile, banks are concerned by Blockchain. How do you deal with it?
We have been very active in this field. For example, we have written a strategic paper in cooperation with Oliver Wyman about the benefits and challenges of Blockchain. We work with selective Blockchain providers on various initiatives, such as our latest collaboration with Paxos, to analyse ways to develop a next generation settlement service in the London gold market. Settlement of unallocated gold is a highly capital-intensive process.
What do you plan to do?
Euroclear and Paxos are working on the development of a service that could significantly reduce the risk, leading to reduced capital charge, lower balance sheet restrictions and provide true delivery versus payment.
Do you see opportunities?
We believe that Blockchain is of enormous value. However, we must be thoughtful in our actions. I have heard CEOs saying that Blockchain will be the future. To become successful, it has to be adopted by the entire market. The introduction of this technology on a global scale is a difficult task, from a logistical rather than an intellectual point of view.
Let’s take Europe as an example and focus on taxes – there are no unified tax rule – there is no “golden record” for taxes. How would that work in a Blockchain world? In Blockchain, information is distributed in a specific, standardised way – this is an issue when there are many different tax jurisdictions.
How important is the collateral business for Euroclear?
It is very important. A few years ago, we analysed the regulatory headwinds and reflected on the direction they would take. We concluded there would be a shortage of liquidity and capital, as well as a lower creditworthiness and declining returns on equity, all resulting in a huge need for collateral. We realised, that additional resources were needed to keep the machine running. We made strategic decisions, resulting in the creation of our joint venture with Depository Trust & Clearing Corporation (DTCC). In Europe, Euroclear has EUR 27 trillion assets, approximately twice as much as our closest competitor.
How important is this cooperation for your European clients?
The joint venture is extremely important. When the partnership was announced, I said that the creation of this joint venture would provide our clients with higher efficiency in a highly fragmented and complex collateral management industry. Thanks to the combined resources and knowledge of two of the largest post trade infrastructure providers worldwide, this partnership will play a leading role in addressing the challenge of efficiently allocating and mobilizing capital across the globe.
How does Euroclear contribute to this?
We have introduced the Collateral Highway technology to the DTCC. The joint venture in the US, GlobalCollateral Ltd, combined with the Euroclear Collateral Highway, connects the United States, Asia and Europe together and optimises the global need for collateral. Our clients have access to the same system, regardless of the collateral location. The Euroclear entities and DTCC have approximately EUR 70 trillion of collateral, including bonds and equities at our disposal.
Will you announce further cooperations?
As an open infrastructure provider, we often receive questions about alliances. Our business model allows market participants to join when it makes sense. Our users only pay for the services they use. Due to the nature of our design, we are constantly adding firms but because of this volume, we do not shout it out to the entire world.
What do you think about cooperations between CSDs, such as SIX Securities Services and Clearstream?
There are several ongoing initiatives on the market. As previously stated, we have a significant cooperation with DTCC in the US. However, these partnerships must make economic sense. The estimated return on equity in the financial industry has dropped by 10 percentage points. In a market that is subject to restrictions, it makes sense to share systems and costs where appropriate. Across our different CSDs we need a lot of investment capital, but the operational costs are not that high. As a result, we benefit from higher volumes and harmonisation.
Where does the demand for your services come from?
In Europe, our overall growth is moderate, which reflects the broader economic climate. However, some business segments have stood out this year, for example the Funds business, which includes Exchange Traded Funds is going very well. After two years of investment, we have now reached a level that is starting to generate good returns.
In which field will Euroclear continue to grow in the future?
One of our major priorities is our Euroclearability offering, where we set up a connection to a market with the objective of opening this market to a new wave of foreign investment. Plainly speaking, there are a number of countries worldwide – India being one of them – that require investments for different types of local projects. This requires a certain level of overseas investments, and these investors want to have a certain level of security and comfort.
What do you mean exactly?
Euroclearability allows for reduced bond yields in a connected country, and increases on-site liquidity in the relevant assets, allowing for a deeper and more stable local market. This creates a single liquidity pool, resulting in significant macroeconomic benefits.
Could this lead to high volumes?
We see a lot of opportunities in this business. We have held discussions with government representatives and relevant financial institutions in various markets, such as Russia, China, India and Peru. This is a long-term business for us. It requires significant investments, which are not system-related as the systems already exist. The investment is time. It requires a lot of time working with different government bodies, discussing the benefits of our model while taking into account how long it may take to amend or change the laws.
Do you consider yourself competitive as far as costs are concerned?
Yes, we need to competitive, otherwise we will be out of the business in two years. We have significantly reduced our costs, including our unit costs. We believe they are lower than those of our competitors.
What is the impact of the clearing obligation for previously bilateral traded derivatives? Does this lead to settlement opportunities?
As far as the clearing obligation for over-the-counter derivatives is concerned, we let the clearing houses Eurex and LCH.Clearnet do what they do best – it is good to have competition. Barriers to entry are high and it is difficult for newcomers to gain market share. For us, the value in this sector comes from the management of the securities pool that results from the clearing activity.
CSDs are now subject to their own regulations – how do you deal with that?
The objective of CSDR is to improve settlement efficiency and security in Europe. This implies, on the one hand, that securities are booked in electronic form, and, on the other hand, the implementation of a mandatory buy-in process, through which undelivered securities must be replaced. Our structure and size have enabled us to adapt well in a harmonised environment. There are issues to be addressed, such as the buy-in-mechanism. It also makes sense to be better capitalised.
Euroclear diversifies its activities
The CSD is connected to the European T2S platform since September 2016
With a volume of around EUR 27.5 trillion of assets held in custody (2015), Euroclear is the biggest international CSD in Europe ahead of the competitor Clearstream (Deutsche Börse) with EUR 13.3 trillion in assets. Unlike Clearstream, Euroclear is owned by its well-known direct and indirect clients – mainly financial institutions. For the financial year 2014, shareholders benefited from a dividend of EUR 106.2 million, together with a share buyback program of EUR 158.9 million. The executive office of the Euroclear plc holding is located in Baar (Switzerland).
The group operates the CSDs of Belgium, France, The Netherlands, Finland, Sweden, Ireland and United Kingdom. The group used to be part of J.P. Morgan. The Morgan Guaranty Trust Company of New York belonging to the US investment bank started to provide securities settlement services in 1968 in Belgium to the emerging Eurobonds market. In 2001, these activities were transferred to Euroclear Bank in Brussels. The Bank is rated AA+ by Fitch and AA by S&P and reaches a total capital adequacy ratio of 39.2% according to Basel II (as stated in its annual report).
Since June 2014, Euroclear has been connected to the stock exchange Euronext and has a seat on their supervisory board. The participation strengthens the securities settlement business in the Eurozone and the future of services for issuers and investors holding their securities with other custodians (Investor CSD service). In September 2014, Euroclear created a joint venture with the U.S. central securities depository, DTCC. This joint venture should focus on the creation of a Margin Transit Utility, which provides standardised processes for the settlement of margin obligations, and on a Collateral Management Utility, that should allow for a more efficient use of assets. Some cooperations with emerging countries are foreseen as well. In 2015, Mexico opened the corporate bond market through the connection to the Euroclear platform.
Since 12 September 2016, Euroclear is connected to the European T2S platform of the ECB. Originally, the migration should have taken place in March, but it has been postponed to September of this year due to some difficulties encountered by Euroclear end of October 2015.