Funds 

The asset management industry has placed increasing importance on FX trading in recent years. 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.

At the operational level, investment managers are often unaware of settlement issues until the day after the original settlement date or even later. These issues take time and effort to resolve. Meanwhile, interest charges and compensation claims may accrue until the issue is cleared. The concentration of trades with quarterly roll-over dates is particularly arduous. There is a better way....

CLS allows investment managers to proactively manage settlement throughout the trade lifecycle in real time. CLS broker banks and fund custodians submit settlement instructions to CLS where they are matched promptly. Unmatched instructions are easily identified and resolved. Matched instructions are then stored by CLS and processed for settlement on their scheduled settlement date. This gives investment managers and their middle office staff a dramatically improved level of oversight over the entire process and the time to resolve any issues with their custodian or broker bank prior to the settlement date.

Growing FX volumes have increased exposure to settlement and operational risk. The need for more efficient processing is obvious given the growth in trading volumes. Increased regulatory requirements for best execution cover execution and post-trade processes, not just price.

CLS Bank is the market standard for FX settlement and the benefits don’t stop there.

Benefits for funds

Elimination of settlement risk
By providing a payment vs. payment (PvP) settlement process with legal finality, CLS Bank protects against loss of principal associated with FX trades. In the event of settlement failure, neither of the two payments for an FX trade will be settled and the related funding is returned to the CLS-enabled broker bank or custodian.

Operational efficiency and cost savings
Users have achieved cost savings through operational efficiencies from: 

• Enhanced straight-through-processing (STP);
• Reduced number of payments and associated transaction costs;
• Reduced errors, virtually no instances of settlement failure;
• More efficient allocation of monetary and physical resources.

Active management of settlement process
CLS-enabled broker banks or custodians 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.

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 day’s 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 or, alternatively, allows counterparties to reduce settlement limits and maintain their levels of trading.

Enhanced business opportunities
Greater credit availability from settlement risk elimination can lead to more trading opportunities with a wider range of counterparties and potentially higher value trades at the best price than may have been available without CLS Settlement.

Regulatory compliance with best execution 
CLS demonstrates to auditors and risk managers a sharply reduced exposure to settlement risk, and decreases the potential liability to claims and other settlement charges. Operational oversight and control throughout the transaction life cycle can help organisations meet compliance with Sarbanes-Oxley and equivalent legislation. Because CLS significantly reduces the risk of settlement failures, trades with broker banks can be executed with high assurance that the deal will settle accurately and on time and access to competitive pricing for FX demonstrates, in part, best execution policy objectives in accordance with MiFID.

How funds can use CLS

CLS is available to the investment management community through CLS-enabled custodians and broker banks. This fund community includes:

• Investment fund managers
• Hedge funds
• Pension funds
• Overlay funds
• Third party custodians

The investment management community can settle via CLS if their custodian and FX broker bank have the ability to settle via CLS. Upon the advice from the fund manager, the custodian will submit the settlement instruction to CLS Bank which will then match it with the instruction received from the broker bank. This normally happens within minutes. On settlement date, if the instructions meet CLS Bank settlement criteria, settlement will occur or should one side fail to settle the principal is returned to the other party. For specific details on how to begin settling instructions via CLS, please speak to a CLS-enabled custodian or third party service provider.

Implementing CLS

You must have a CLS enabled custodian(s) and broker bank(s) to settle FX trades in CLS. The following steps are offered as a guide to implementing CLS:

• Establish whether your banks can offer CLS Settlement. 
• Ensure that your broker bank(s) have access to CLS. 
• Contact your custodians and FX broker banks to review what you’ll need to implement CLS. It has been reported that the appropriate system changes have taken as little as two weeks.

CLS complies with industry standards and was designed to require minimal system changes. It uses existing SWIFT message types, existing fund ID standards and SWIFT FIN fund ID structure.

The expenditure on back office modifications is different for every firm, however, the potential savings from settling via CLS are easily identified.

For more information email mailto:joinus@cls-group.com