CLS LIVE: DIRECT OR THIRD-PARTY MEMBERSHIP?

Continuous Linked Settlement (CLSTM) is an industry initiative intended to eliminate foreign exchange (FX) settlement risk by the simultaneous exchange of FX currency values through a new market intermediary --- the CLS Bank.Many large FX institutions have already begun to position themselves to take advantage of the benefits of CLS.It is now time for those institutions having not participated CLS to consider take action, the first step of which is to decide upon the most appropriate way in which to access the benefits of CLS. Do they become direct members or third-party participants? The following analysis of membership vs third-party access may be useful in helping such institutions towards a decision.

Investment

In order to become a settlement member of CLS Bank, it is first necessary to be a fully paid-up shareholder of CLS Holdings AG, which involves a sizeable upfront investment, including significant investment in infrastructure developments. For third-party participants, however, only minimal expenditure on back office system changes will be required, for which off-the-shelf packaged solutions are now available.

Confidentiality

The membership proposition provides direct access into CLS through the IBM-supplied Member Application Software, ensuring member confidentiality. Third parties must provide details of their transactions to their settlement member for onward submission. While confidentiality remains of utmost concern, industry trends continue towards increasing levels of outsourcing. Confidentiality is an issue that is already being addressed to the satisfaction of outsourcing parties.

Timed payments

Settlement members are bound by the CLS pay-in schedule. Third-party participants, protected from the demands of the timed payments, may cover its accounts later in the settlement day.

Real-time information

CLS provides real-time online status information back to members through the Member Application Software. Some members have developed their own reporting mechanism that takes CLS-supplied data and makes this available to third-party customers using a standard web browser.

Profile

Provided that institutions are eligible for CLS in some capacity, there is little tangible benefit in profile terms between direct and indirect access. The exception to this would be the small number of global payment banks for which CLS settlement member status is an essential part of the payments and cash management range of services.

Pricing

Because of the volume discounts available to the larger players, a number of fully paid-up shareholders have found that the transaction pricing being offered to them by CLS as a direct member is significantly higher than the transaction pricing being quoted to them by some intermediary members.

Liquidity and liquidity costs

The invention of the “In-Out Swap”mechanism has provided settlement members with the ability to significantly reduce their exposures to CLS Bank. Third-party customers are largely protected from the complexity of multi-currency liquidity management on a global scale. They will be expected to cover their net short positions within the timescales dictated by the national clearing systems.

Loss allocation

The CLS rules clearly state that in the event of a loss being incurred due to a failing member, CLS will seek to allocate such losses amongst those other members that had settled trades against the failing member on the day of failure. As for third parties, they will find that their service providers will pass on any combined loss allocations received from CLS Bank where the loss can be tracked down to specific third-party transactions.

Resources

The resource implications in progressing with membership are also likely to be significantly greater than those required to implement a third-party solution. Modest back office system changes and a packaged solution provided by their settlement member should make the third-party implementation process easy and relatively quick compared with the implementation of a member.

Customer services

CLS provides members with the opportunity to develop services for their clients ranging from treasury outsourcing to enhanced payment functionality and full end-to-end FX settlement services. However, CLS should not be regarded as a standalone product but more as an integrated element of a full payments and cash management service. As a third party it can utilize a fourth-party service served by service providers to offer CLS settlement services to its customers, or indeed to its own branches offices and subsidiaries around the world.

（by Rob Bolton,HSBC,HK）