Consultation on Variation of the Financial Stability Standard for Securities Settlement Facilities: Disclosure of Equities Securities Lending 3. Variation of the Financial Stability Standard for Securities Settlement Facilities

In May 2003, the Reserve Bank determined Financial Stability Standards for central counterparties and securities settlement facilities. The standards reflect the critical role played by clearing and settlement facilities in the functioning of the financial markets and are intended to ensure that they conduct their affairs in such a way as to promote overall stability in the Australian financial system.

The Financial Stability Standard for Securities Settlement Facilities reads as follows:^[1]

A CS facility licensee must conduct its affairs in a prudent manner, in accordance with the standards of a reasonable CS facility licensee in contributing to the overall stability of the Australian financial system, to the extent that it is reasonably practicable to do so.

The Standard is underpinned by a set of principles-based measures that the Reserve Bank considers relevant for meeting the Standard. These measures cover matters such as: the legal framework; participation requirements; settlement arrangements; and operational risk. The full text of the measures and associated guidance is available on the Reserve Bank's website.

Under the Corporations Act, the Reserve Bank is obliged to assess licensed securities settlement facilities’ compliance with the Standard at least once a year, and also to assess whether each licensed facility is ‘doing all other things necessary to reduce systemic risk’. Although these are separate obligations, the Reserve Bank in practice conducts both assessments by reference to the measures underpinning the Standard, as these comprehensively cover issues pertaining to the management of systemic risk.

In pursuing greater transparency of securities-lending activity, the Reserve Bank proposes a variation of the ‘Understanding Risks’ measure (Measure 3) of the Standard and associated guidance. The objective of the proposed variation is to clarify that, in assessing compliance with the Standard, the Reserve Bank will consider whether a facility that settles cash equity transactions collects and publishes data on equities securities-lending activity. This would, in turn, have the effect of requiring that a licensed securities settlement facility providing settlement services to the cash equity market amend its rules to require that settlement participants make these data available.

Measure 3, Understanding Risks, currently reads:

The securities settlement facility's rules and procedures must enable each participant to understand the securities settlement facility's impact on each of the financial risks the participant incurs through participation in the facility.

Measure 3 is therefore currently focused on the information provided by the securities settlement facility in its rules and procedures to enable participants to understand the financial risks incurred through participation. The guidance supporting this measure focuses primarily on: the availability of clear, comprehensive and up-to-date operating rules; the provision of sufficient procedural information to enable participants to understand the basic design of the system; and the description of the respective roles of participants and the system operator in various circumstances.

The Reserve Bank proposes that the measure be varied in such a way as to require that additional information and data be made publicly available to give participants a more comprehensive understanding of the risks associated with participation. Specifically, the following variation is proposed:

The securities settlement facility must make sufficient information publicly available, via its rules and procedures and the provision of relevant information on settlement activity, such that each participant is able to understand the securities settlement facility's impact on each of the financial risks the participant incurs through participation in the facility.

Further, it is proposed that the following be added beneath the first paragraph of the guidance for Measure 3:

The operator of a securities settlement facility should supplement clear, comprehensive and up-to-date rules and procedures with other information and data relevant to a participant's understanding of the risks associated with participation in the facility. For instance, participants should have access to sufficiently timely and comprehensive securities-lending data to enable them to assess the potential implications for settlement risk. This is particularly important where equities securities loans are bilaterally negotiated and not novated to a central counterparty, but nevertheless settled alongside novated exchange-traded transactions.

The proposed wording of the variation reflects the Reserve Bank's preference to retain a principles-based approach within the measures underpinning the Standard. Such an approach allows licensed facilities some flexibility within broadly stated parameters, recognising that the precise details of system design are best worked out in consultation with industry participants.

Footnote

The original Standard for Securities Settlement Facilities was varied in June 2005 to ensure that small securities settlement facilities, which are unlikely to affect the overall stability of the Australian financial system, are not subject to unnecessary regulation. [1]