As the blizzard bears down on the Northeast, I had the time to review the additional comments from Tim Lind, the global head of financial regulatory solutions at Thomson Reuters. He talked to me last month about his major predictions for 2015 and his main concern was the Legal Entity Identifier standard (http://bit.ly/1yWE8YV). Yet the interview also touched on some key perspectives he has on shorter settlement cycles and the fines imposed on Wall Street firms.
T+2 and Risk Mitigation
As for shorter, T+2 settlements, Lind says there will be “more action on the talking circuit” in the U.S. during 2015, complete with the frequently heard argument that T+2 lowers risk. Lind says the risk argument doesn’t hold water.
In fact, he argues that the Europeans may have had a better argument for the move to T+2 – they wanted to harmonize settlement across all of their markets and decided to unify last fall for a faster settlement cycle. “I think they just pulled the trigger,” Lind says. “In America, we don’t necessarily have a lot of member states to harmonize. In this market, we’re pretty much harmonized.”
At the same time in Europe, there was another harmony push via the Target2-Securities initiative, which is a process that provides centralized delivery-versus-payment securities settlement for central bank funds across European markets.
“In the U.S., the agenda will be cost, efficiency and risk,” Lind says. “I think we need to take an honest look at that. I think the risk arguments are not well founded.”
Settlement in the U.S. has a major risk mitigating factor in the clearing of both counterparties to a transaction, Lind says. “If one [counterparty] defaults, by definition it can’t harm the counterparty to the trade,” he says. The overall risk in the delivery versus payment infrastructure is designed so that trade counterparties never have a principal risk in the settlement of any trade if subjected to a shorter settlement cycle, he says. “You don’t get your cash if I don’t get my securities, and vice versa,” he says. At no time, can anyone have the cash and the securities. “So, there is no credit risk associated with the T+3 settlement.”
Even in the extraordinary, catastrophic events such as the MF Global and Lehman Brothers fiascos, the real damage was done via broken trades, Lind argues.
“Ask any asset manager what direct financial losses they can attribute to the failure of Lehman Brothers in cash-settled instruments like those subject to T+2?” Lind asks. “There were a lot of busted transactions … But if you fail to deliver on the contract, the contract is busted and I don’t have to deliver anything because you failed to deliver on your side. I might have bought it at a good price and now you’re not going to deliver on that price and the market will move away from me so there are replacement cost risks. But there’s no fundamental principal risk or counterparty risk on any of these trades. The risk arguments [for T+2] are poor.”
Wall Street Fines
While Wall Street firms have been known for record-breaking salaries and bonuses, they are also getting known for major fines. This has made the stakes higher for Wall Street firms that work very hard to comply with the law, but fail, Lind says. The fines that major car manufacturers face pale in comparison to those that hit investment banks and other securities firms. “If you have one compliance failure, you’re looking at billions [in fines],” he says. “They are so diligent in wanting to comply.”
The compliance issues are not getting any easier especially as the situation with Russia and its conflicts with the Ukraine become more complicated. A case in point is meeting the sanctions governed by the Office of Foreign Assets Control (OFAC) of the US Department of the Treasury. “The will is there,” Lind says. “They are trying to comply. Any failure in trying to comply with OFAC is not willful – it will be accidental. So it’s incumbent upon the regulators to provide as much proscriptive guidance as they can.”
Lind says that he knows of firms that have set the highest possible standards for OFAC and other layers of compliance. They have declared, “ ‘We shall have no compliance failures. Period.’ ” Lind says. “I think our industry is paying attention.”
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