The people who run the Tallinn Stock Exchange have obviously not been studying their industry manuals. Recently, the exchange announced that it was to take over the central securities depository for Estonia, as well as establishing a central counterparty which it would also own and manage.
The great and the good of Europe do not like such plans. To the people who run the European Securities Forum (ESF), for instance, the idea of trading, clearing and settlement systems under the same ownership and management is one to which they are strongly opposed. ESF, a trade association representing all the major investment houses operating in Europe, is currently trying to thrash out a deal between the London Clearing House, Eurex and Clearnet to create a European central counterparty. It also wants to see consolidation of Europe’s numerous settlement systems, and is especially keen to get the two major international depositories, Euroclear and Clearstream, to merge.
Almost everybody agrees that Europe needs a central counterparty, which would dramatically reduce market risk and volumes through trade netting. In the US, the effect of the central counterparty is awesome: last year, the continuous net settlement system of the Depository Trust & Clearing Corporation reduced the number of obligations requiring settlement by 97%, or $67trn.
Clearing and settlement in the US have only recently been brought together under the DTCC umbrella, but the ESF does not want Europe to go in the same direction, at least for the time being. ESF recently announced its principles for a central counterparty, saying that, amongst other things, “ownership and governance of the central counterparty should be separate from that of trading platforms and, in the foreseeable future, from settlement providers”.
This may cause a small problem. Euroclear, currently in the throes of merging with Sicovam, the French depository, CIK of Belgium and Necigef of the Netherlands, has fingers in many other pies as well. Through its deal to merge with Sicovam, it has an option to buy a 20% stake in Clearnet, although it has always said that this holding might be passed on to the users at some stage.
That is not the end of it. Euroclear is also an equal partner with the London Clearing House and the Government Securities Clearing Corporation in the European Securities Clearing Corporation (ESCC), established at the end of last year to provide services for government bond repo and cash transactions. Just in case you are not yet completely confused, Euroclear is also the trade guarantee organisation - a central counterparty by another name - for Coredeal, which is the screen-based bond trading service of ISMA.
All of this makes Euroclear a very significant player in the central counterparty business. With what now seems like remarkable perspicacity, the Brussels-based depository has assembled an impressive array of alliances, shareholdings and deals that will give it substantial influence in the coming debate on how the central counterparty is structured.
The culmination of all these efforts is Euroclear’s deal to service EURONEXT, the proposed exchange created by a merger of the French, Belgian and Dutch stock exchanges. Euroclear’s mergers with Sicovam, CIK and Necigef will give it a huge advantage when it comes to offering settlement services to traders. No securities house will be forced to settle through it, but the alternatives will almost certainly be more expensive and less efficient. With Clearnet providing netting, the package looks very attractive.
Leveraging this predominance in Europe will not be easy for Euroclear. Cast your mind back to its early days as a bond clearing house, and the establishment of Cedel as a counterbalance to its market dominance. Cedel - now Clearstream - has always been the junior partner, but it has encouraged creativity and has kept Euroclear on its toes. One former Euroclear manager recently suggested that Cedel only remained in business because Euroclear let it, but that is a harsh, and typically arrogant, judgement.
The time has now come to make more measured judgements on the future of the two bond houses. The easy answer is to press for a full-blown merger, but the benefits of such a move are not as clear cut as some would make out. Clearstream is not a sick animal, and it continues to show encouraging flashes of innovation. Neither Euroclear nor Clearstream are expensive per se: the true costs of European clearing and settlement lie elsewhere. After twenty five years, healthy competition between the two could still be better than an unhealthy monopoly. A merger now would inevitably hand the real power to Euroclear’s management, who have not always demonstrated that they can understand and act on client needs. Is this really what the market wants?

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