Ireland’s post-Brexit CSD plans face operational hurdles

Plans to develop a central securities depository in Ireland post-Brexit may not be as straight forward.
By Charles Gubert

Industry observers have expressed surprise that Ireland is to launch its own central securities depository (CSD) amid concerns the country may no longer be able to leverage the UK’s CREST settlement system for equities, exchange traded funds (ETFs) and bond securities transactions following Brexit.

This is because the European Union’s (EU) Central Securities Depository Regulation (CSDR) demands trades to be settled in EU-authorised CSDs, a designation that CREST, which is presently operated by Euroclear UK & Ireland, will potentially not fall into once Brexit occurs. In July 2017, Ireland’s Department of Finance issued a statement acknowledging that the creation of a domestic CSD was the preferred option to ensure continuity in the country’s securities settlement processes, adding that applicants should notify the Central Bank of Ireland (CBI).

A disruption to securities settlement would be highly damaging to capital markets in Ireland, and providers are already looking to quell this disruption. Global Custodian reported earlier this month that Euroclear affirmed its commitment to the Irish market, and was engaged in a constructive dialogue with the relevant participants on creating a CSD in the country.

Some, however, have questioned whether a domestic CSD is totally viable.  “Many were surprised by the Irish government’s recent announcement that Ireland is to establish its own CSD. Whilst it was widely acknowledged that a change would be required due to Brexit, many felt Ireland would link up with another large EU-based CSD, in an identical fashion to the current construct with the UK,” said Adrian Whelan, senior vice president of regulatory intelligence at Brown Brothers Harriman (BBH).

Law firm Dillon Eustace hypothesised in a briefing that “existing links between the ISE (Irish Stock Exchange) and the Frankfurt Exchange through its Xetra trading platform may facilitate further linkages on the settlement side as Deutsche Boerse, which operates the Frankfurt Exchange, also owns Clearstream.”

Creating a CSD from the beginning – as many recently liberalised emerging markets will acknowledge – is not a cheap undertaking, and can be very complex. “The current CSD has €330 billion in Irish assets, which represents a tiny fraction of the UK’s CSD assets overall. Losing the benefits of scale currently afforded by being part of the sizeable UK system will create cost issues for Irish assets,” added Whelan.

“Setting up an Irish CSD is not as straightforward as one would initially think. Interestingly, about 70% of Irish securities are not settled in euros, but rather US dollars and pound sterling. This creates certain operational complexities when switching from the current set-up.”

Experts have said a domestic Irish CSD would be able to join the EU pan-settlement platform Target2Securities (T2S), an initiative CREST was not a member of due to objections from UK policymakers. T2S participation would bring a number of operational advantages for Irish financial institutions, namely through the free up of collateral and various liquidity savings. However, BBH’s Whelan said the low number of Irish securities being settled in euros would delay the country’s participation in the T2S project.

But is this all hot air, and will an agreement on the status of the UK be reached? Getting Brexit wrong does have systemic implications and regulators – including the Bank of England – have told financial institutions to have thorough contingency plans in place just in case. Despite this, there does appear – inevitably – to be widespread politicisation of many of the core debates and issues around financial services, meaning many experts remain unsure what the end outcome will be on matters of equivalence including for rules such as CSDR. Equivalence would theoretically allow Ireland to continue settling securities via CREST, but it appears Ireland is bearish on this eventuality.

“That (equivalence) is the multibillion dollar question. At this time, nobody can confidently predict what the final outcome will be since equivalence decisions are heavily driven by politics, as seen in the Alternative Investment Management Directive (AIFMD) and euro clearing debates. However, the direction of travel appears to be that the EU finds it unpalatable to have any infrastructure of systemic importance situated beyond their locus of control. It is possible that any CSD granted equivalence status would still be subject to the rule of EU law. In any case, equivalence as a premise for market access is far from ideal since it is temporary, highly subjective, constantly changing and can be removed without notice or appeal at the discretion of the EU,” said Whelan.