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September 10, 2007

Europe's Post-Trade Battle

Efforts Gear Up to Ease Cross-Border Trading

By Nina Mehta

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One of the main aims of the European Union's Markets in Financial Instruments Directive is to foster competition among execution venues for the trading of pan-European stocks. But the thorn embedded deep in MiFID's side is Europe's fragmented system of post-trade service infrastructures. By and large, these infrastructures are segregated by country, making cross-border trading far costlier than domestic trading.

Many predict that without competition in clearing and settlement-which are together known as post-trade services-significant competition in cross-border trading cannot occur.

"You can't talk about competition in European trading without talking about clearing and settlement," says Ruben Lee, managing director of Oxford Finance Group, a financial-services research and consulting firm in the U.K. "And clearing and settlement is where controversy has been at its peak in Europe for the last year and a half."

Opaque World

For the first time, serious industry efforts are now under way to pry open this opaque world in which many post-trade securities-processing entities run what are effectively monopolies. The industry's voluntary Code of Conduct for Clearing and Settlement, adopted last November, aims to allow competition for post-trade services. But it's unclear how effective these efforts will be.

Currently, every European country has a central securities depository (CSD) for settling trades. And most have their own central counterparty (CCP) or clearinghouse to clear domestic trades. Within a country, these organizations are often tied-by rules, regulatory fiat or habit-to that country's dominant exchange. That tight relationship prevents other firms from providing competitive post-trade processing services.

"The real inefficiency in the trading world in Europe is post-trade. When trading a stock in its home market, you must clear and settle in that country and form relationships with the clearing and settlement organizations and local intermediaries," says Ian Peacock, CEO of North American operations for Cheuvreux, the European brokerage subsidiary of French banking giant Calyon. "And if you trade the same stock across two venues, as increasingly will be the case post-MiFID, you'll have multiple tickets to process."

The code of conduct encompasses a phased plan to provide more pricing transparency in post-trade services, access and interoperability between organizations, and-by the beginning of 2008-an unbundling of offerings that will enable users to mix and match services from different providers. The inspiration for the Code of Conduct was forced on the industry by two powerful European Commission policy groups-those for Europe's Internal Market and Services and for Competition-which threatened regulatory action if the industry didn't address its inefficiencies.

The code of conduct faces an industry undergoing tremendous regulatory upheaval, in which most interested parties are scrambling for position as the landscape shifts. "It will take a long time to assess whether [the guidelines] will result in real competition," says Patrick Cirier, global head of professional trading group solutions for Fimat, the brokerage arm of French bank Societe Generale.

High Costs