Europe’s CSDR: Custodians Face Reporting Headaches

The European Central Securities Depositories Regulation (CSDR) is quickly turning into a misnomer for the legislation.

Operations and IT managers at custodian banks must quickly develop new data consolidation and message reformatting workflow and technology to deliver the right information on settled and unsettled trades to local regulators in July 2019.  Given that the pan- European securities watchdog European Securities and Markets Association (ESMA) did not clarify the type of data necessary until March 2018, custodians don’t have much time left to prepare.

Adopted in the wake of the financial crisis, the main goal of multi-phased CSDR is to ensure the safety of securities settlement by harmonizing practices and operations for national securities depositories across Europe by 2021.  In addition to reporting on settled and unsettled transactions, European national depositories are required to use a two-day settlement cycle, a single methodology for calculating fines and other deterrents for participants that fail to settle their trades on time, and improved overall operating procedures.

However, ESMA also considers systemic risk to apply to any entity other than a securities depository as long as it is settle trades on its books. Therefore, as the other key providers of settlement services to fund management firms and institutional players, custodian banks must also submit to national regulators on a quarterly basis the aggregate number and value of trades settled and unsettled on their books. Those regulators would pass along the information to ESMA.

The task might sound like a no-brainer. After all, custodians are supposed to store data on trades they settle. However, the broad scope of transactions affected will spell a lot of extra work. ESMA doesn’t care whether the trades are  executed between European counterparties or even whether they are transactions in European securities. All ESMA is concerned about is whether the trades are eligible to be settled through a local European depository or international depository, such as Euroclear and Clearstream.

ESMA’s definition of a settled trade also extends far beyond just the purchase and sale of a plain old equity or bond. Repurchase agreements, securities borrowing and lending deals, and collateralized transactions fall within the scope of CSDR. At the urging of multiple securities industry players. netted trades were exempted from the laundry list.

Custodian banks will likely have to file several reports to their headquarters depending on the number of branch offices involved. A custodian, says ESMA, must submit one report to its local regulator for its internalized settlements in the member state where it is established, separate reports to discuss the activity of branches in each member state and yet another single report for the internalized settlement activity in all branches outside Europe. It is possible that even if no transactions are internally settled within each quarter the custodian must still submit a report saying so.

European custodian banks are hesitant to discuss their preparations for the CSDR with good reason. Operations managers at several European banks tell FinOps Report that they are just beginning devise the necessary  gameplan. “Custodians will likely be building a reporting suite to support the regulatory reporting requirements,” says Jean White, a senior consultant at the regulatory solutions group for Northern Trust in London.

Lkewise says Sean Tuffy, head of market regulatory intelligence for EMEA with Citi’s custody and fund services group, “custodians are still in the process of determining the full operational implications of the reporting requirement. Ultimately it will entail identifying the relevant transactions and legal entities that are in scope and ensuring the systems are in place to aggregate the data.”

Despite all the preparations, custodian banks hae plenty to worry about. They might forget to report some trades or be unable to successfully bucket settled trades into the required categories. Operations managers at some European custodian banks tell FinOps Report that their systems cannot distinguish repo deals, securities borrowing and lending and collateralized trades from purchase and sale transactions.

Last but not least, custodians face the unenviable challenge of reformatting the data they do have have into the XML-based ISO 20022 formats required by ESMA. Some custodian banks — such as Societe Generale, JP Morgan Chase, BNY Mellon and Deutsche Bank– have teamed up with global message network giant SWIFT and message transformation software firm Volante Technologies to figure out how to correctly map the information on internalized settlement instructions to the format ESMA wants.

“As a member of the CSDR ISO working group Volante is helping to define changes to existing MT5nn and ISO 20022 message types as well as proposing additional messages in the ISO 20022 category to accommodate internalized settlement,” says Fiona Hamilton, the London-based research director and vice president of European operations for Volante. Euroclear, Clearstream and the US Depository Trust & Clearing Corp. are also participating in the CSDR ISO working group, headed by SWIFT. The global message network operator serves as the registration authority for ISO 20022 messages, which are considered to be a substantial upgrade to the MT message formats. As a rule of thumb, more details can be squeezed into structured data fields instead of narrative text but switching to the new ISO 20022 can be costly.

Mariangela Fumagalli, head of regulatory custody solutions in London for BNP Paribas Securities Services says her bank’s workload in complying with CSDR is lightened by the fact that it already collects internalized settlement data daily and stores it in a centralized repository. Still, BNP Paribas has plenty left to do.  “The bank will be using home-grown applications to aggregate the data and reformat it into the ISO 20022 protocol,” says Fumagalli. “Testing of the entire process from data collection all the way to reporting will take place in early 2019.”

Given the extensive preparations that custodian banks must to do meet the CSDR’s reporting requirements, they will need to brace themselves for the additional costs. None of the custodian banks contacted by FInOps wanted to specify the extra expense on the grounds it is too early to tell. In its guidance on the reporting rules, ESMA downplayed the pricetag, but as Fumagalli acknowledges it depends on the number of internalized settlement transactions, branches and legal entities involved,