CONTINUOUS LINKED SETTLEMENT
About CLS
Group was founded in 1997 to create the first global settlement system to eliminate settlement risk in Foreign Exchange Market. CLS Settlement is offered by CLS Bank International (CLS Bank) owned by the FX Community, is an edge corporation regulated & supervised by Federal Reserve. CLS Bank operates the largest multi-currency cash settlement system . CLS delivers greater operational efficiency when settling payment instructions related to trades in SIX Traded Instruments & 17 Major Currencies
CLS
CLS Services
CLS Services is a company organised under the Laws of England & Wales & located in London ,provides technical & operational support to CLS Bank.
Why CLS?
CLS Settlement is the only means by which settlement risk can be eliminated with finality using a unique combination of payment versus payment in central bank funds. CLS Settlement: Eliminates FX settlement risk in the worlds single largest market. Settles seventeen currencies that account for 95% of daily traded value. Settles matched FX trades on a payment versus payment (PvP) basis Multi-laterally nets all obligations per value date.
Settles payment instructions related to trades executed in six main instruments: FX spot FX forwards FX option exercises FX swaps Non deliverable forwards Credit derivatives
PAYMENT VS PAYMENT ? Without PVP there is a (potentially devastating) chance that one party could pay its leg of the transaction to the other, but never receive the reciprocal payment (which could happen if the other institution defaults in the hours between receipt of one leg and payment of the other). This is known as SETTLEMENT RISK or HERSTATT RISK.
Why named HERSTATT Risk?
German Bank that made a famous example of the risk. On 26th June 1974, the bank's license was withdrawn by German regulators at the end of the banking day (4:30pm local time) because of a lack of income and capital to cover liabilities that were due. But some banks had undertaken foreign exchange transactions with Herstatt and had already paid Deutsche mark (official currency of west germany 1948-1990 until the adoption of EUR in 2002) to the bank during the day, believing they would receive US dollars later the same day in the US from Herstatt's US nostro. But after 4:30 pm in Germany and 10:30 am in New York, Herstatt stopped all dollar payments to counterparties, leaving the counterparties unable to collect their payment.
Benefits of CLS
We can look at the benefits of CLS with the perspectives of Banks Corporates Funds
Benefits for BANKS--- Elimination of Settlement Risk By providing a payment vs payment settlement process with legal formality ,CLS Bank protects against loss of principal associated with FX Trades. In the event of settlement failure by one party to a trade ,the principle will be returned to other party. Operational Efficiency & Cost Saving Through1. 2. 3. 4. Enhanced Straight through Processing(STP). Reduced no. of payments & associated transaction cost. Reduced errors, virtually no instances of settlement failure. More efficient allocation of both monetry & physical resources. Active Management of Settlement Process CLS-enabled banks are able to send participants a report of trades whose instructions have not matched in CLS. Any issues arising can be actively managed in advance of settlement rather than the cumbersome process of resolving issues following a settlement failure e.
Minimised interest charges and compensation claims Pre-settlement matching reduces risk of settlement failures and, consequently, any resulting interest compensation claims. Improved liquidity management The CLS settlement cycle involves same day funding which minimises the time funds are tied up to prepare for and complete settlement. Furthermore, whilst settlement in CLS occurs on a gross, individual PvP basis, funding required for settlement is calculated on a multilateral netted basis. Multilateral netting significantly reduces the number and amount of payments that must be made to CLS. This netting effect can also be beneficial in reducing the size of intra-day credit lines required. Increase in reconciliation speed Participants can minimise the number of payments needed to settle a days trades which speeds up cash reconciliation
Increased trading lines The elimination of settlement risk allows counterparties to increase their trading capacity without increasing their settlement limits . Enhanced business opportunities Regulatory compliance Using CLS assists compliance with the Basel II Committee Guidance for Managing Settlement Risk in Foreign Exchange Transactions, and operational oversight and control throughout the transaction life cycle can help organisations meet compliance with Sarbanes-Oxley and equivalent legislation. Progress in reducing foreign exchange settlement risk highlights the need for action to remove settlement risk from the remaining 45% of transactions not currently settled by CLS, and CLS Bank is seen as an important contributor to this objective.
How banks can use CLS? Either become a CLS Settlement Member and have direct access to the CLS system . Or you can use a CLS Member third party service provider. Using CLS as a third party is simple. Your selected CLS Member will submit instructions relating to your trades and it is able to provide you with an interface with a system that allows you to submit your trades and see real-time trade status and settlement information. In many cases, a service provider will allow you to use your existing nostro accounts for CLS funding purposes. Refer figure in next slide
Implementing CLS
You must have a CLS service provider to sponsor FX trade settlement in CLS. The following steps are offered as a guide to implementing CLS: Establish whether your clearing banks offer CLS Settlement. Assess volumes and values of trades in current and future CLS eligible currencies. Ensure that your key counterparties have access to CLS. Establish a project group to assess business case and feasibility. Review and develop your back office processes and test as appropriate.
FUNDS
Currency has become an asset class of its own in the pursuit of alpha. Investment in cross-border securities has seen increasing interest and forward contracts are used to hedge currency exposure within a portfolio. Increasingly, FX trading with third parties is mandated and demands competitive rates. These exchanges of currency carry exposure to settlement risk. CLS was designed to provide a comprehensive settlement service that eliminates this risk.
CLS &DTCC CLS has partnered with The Depository Trust & Clearing Corporation (DTCC) to provide an automated, seamless processing and settlement environment for the handling of OTC credit derivatives contracts on a global basis. HOW IT WORKS? Most OTC credit derivative transactions are now matched and confirmed electronically through Deriv/SERV. The Warehouse generates bilaterally netted payment instructions and sends them to CLS Bank. CLS Bank automatically notifies its Settlement Members, who effect settlement through CLS Bank on a multilateral, netted basis. Payments through the service are made in five currencies: the US dollar (USD), euro (EUR), Japanese yen (JPY), British pound (GBP) and Swiss franc (CHF).
BENEFITS
Through CLS, Warehouse customers gain settlement certainty all payment instructions generated by the Warehouse and settled by CLS are final and irrevocable in immediately available funds. The Warehouse receives real-time information on the status of all payment instructions that have been submitted to CLS Bank.
