Keynote Address by Mr Ong Chong Tee, Deputy Managing Director, MAS, Asia Bond Clearing and Settlement Conference, Marina Mandarin Hotel, Singapore, 16 April 2007
Distinguished Guests, Ladies and Gentlemen,
1 Good morning. I am glad to have the opportunity to speak at this conference, which is – as far as I know - the first of its kind to focus on bond clearing and settlement systems in Asia. May I congratulate the Asian Development Bank for the initiative and in bringing the key market participants and stakeholders together to this event.
Growth of Asian Bond Markets
2 For most Asian countries, the development of our respective domestic bond markets only began in earnest after the financial crisis in 1997. The painful experience of the crisis had led to strong regional consensus to develop a third channel of finance via debt capital markets, to supplement bank lending and equity financing. This development has included both local as well as cross-border measures, and now 10 years since, I am happy to note that much progress has been made. Excluding Japan, Asian bond markets have more than quadrupled in size to US$2.8 trillion over the past decade. Most countries now have a transparent and representative benchmark yield curve, regulatory frameworks for the primary and secondary markets, and at least some basic hedging instruments. In the last few years, spurred by greater investor sophistication, the suite of debt securities has also grown – including subordinated bonds, mortgages, asset-backed securities, CLOs and even Islamic bonds.
3 As I alluded earlier, while much of the development effort is conducted within each respective country, there have also been several significant regional efforts like the Asian Bond Market Initiative led by Asean+3 finance and central bank officials, the launch of Asian Bond Funds 1and 2 by EMEAP, which is a regional grouping of East Asia and Pacific central banks; also, the formation of the Asia Securities Industry and Financial Markets Association (ASIFMA) and more recently, ASEAN finance authorities’ decision to link their electronic bond platforms – to name a few regional developments. The Asian Development Bank has also contributed to the development efforts – by offering technical advice, by initiating bond issuance in various markets, by fostering product innovations, like the introduction of the US$10 billion Asian Currency Note programme last year, and certainly by holding informative conferences like this.
Domestic Settlement Systems
4 A key aspect of a bond market is a well-functioning clearing and settlement system – the so-called “plumbing” of the market. In this regard, much progress has also been made. A study by the Institute for International Monetary Affairs (IIMA) in 2003 concluded that East Asian settlement systems comply with most of the G30 recommendations. All markets are largely scripless. And at that point in time, most - except for China and Indonesia- are able to settle on a Delivery-vs-Payment (DvP) basis, through a real time gross settlement (RTGS) system. The study was done in 2003. Since then of course, both China and Indonesia have also introduced DvP systems. Increasingly, with more countries introducing electronic bond platforms including here in Singapore for our Government Securities Market, Straight-Through-Processing (STP) has been introduced. The legal and regulatory frameworks for settlement systems have improved too, and so has the level of transparency. Settlement cycles have also been reduced, and countries continue to improve or reform their financial infrastructure to meet international standards.
5 However, while considerable improvements have been made within respective countries in clearing and settlement systems, less progress has been seen to integrate these systems across the region. Without more being done in this area, Asian bond markets – even while large in aggregate - risk being relatively small and fragmented compared to other global bond markets. Presently, cross-border transactions are mainly settled through one of three ways: one, through directly accessing a national CSD; two, through a local agent; or three, through a global custodian or ICSD. Are these arrangements adequate? A survey of market participants, done under the auspices of ABMI in 2004, may suggest that they are. Most participants do not see clearing and settlement issues as impeding cross-border investments.
6 But can these arrangements be improved? As in most things, I would say the answer is clearly yes. How to improve it, however, is a matter of some debate. As Franklin Roosevelt once said, “there are many ways of going forward but only one way of standing still”. There are two aspects to this issue; what some have termed the “hardware” aspects and the “software” aspects. The hardware parts involve the physical or infrastructure integration of different national systems. This can be done in various ways. Firstly, linking the national CSDs through a network of bilateral linkages. This web approach may be cumbersome to set up because it requires every CSD to open an account with another. Secondly, linking the national CSDs to a single hub. As the hub essentially clears all cross-border transactions, it will need to have a very high credit standing that is accepted by all participants. If the hub is an ICSD, it can help in facilitating more international investors’ participation in Asian markets. Finally, there is also the option of setting up an Asian ICSD in the mould of Euroclear and Clearstream. This option is arguably the more efficient and secure way. But it also requires the heaviest upfront investments – and past estimates had put this in the ballpark of US$100 million. Each option will have its merits and demerits. In the end, I believe the hardware issues cannot be resolved without first doing a hard-headed assessment of how much efficiency and security each initiative can bring, versus the costs and effort required to implement.
7 The software aspects will involve greater harmonization of settlement standards, market practices and risk management frameworks. Given the diverse Asian platforms, whether in practices or levels of technical development, there will be much that can be done. To illustrate, greater harmonizing of regional settlement procedures can include days to settlement, day-count conventions, tax treatment, confirmation procedures, custody requirements and others. There are also issues of policy transparency and procedures, relating to governance and system performance. Regional finance officials and central bankers are indeed discussing these complex issues with the general recognition that a more homogenous system will make it easier, not just for Asian investors, but also for non-Asian investors to access Asian bond markets.
8 So far, I have focused my speech on the clearing and settlement of cash securities. However, an equally if not even more important space is the clearing and settlement of non-exchange traded derivatives. The experience of developed markets has been that as trading of cash securities grow, trading of derivatives will grow exponentially. In Singapore, for example, the interest rate swap (IRS) market is almost non-existent 10 years ago. Today, the daily trading volumes in IRSs is approaching S$10bn, several times the trading volumes in our government bond market. Newer types of derivatives are also emerging – including swaptions and credit default swaps. An active derivatives market can add to secondary market liquidity, thereby helping investors manage risks more effectively in a more efficient marketplace. However, derivatives transactions will incur more counterparty and settlement risks. This makes the role of clearing and settlement of OTC derivatives another critical development issue.
9 A theme of today’s conference “Does Asia need an Asian ICSD” is a thought-provoking one and I feel very encouraged that all stakeholders in the industry are actively exploring ways to improve cross-border settlements. Two things would be important in the discussions and actions to be taken. First, countries need to adopt regional and not only national perspectives on the issues. Second, whichever approach is taken, we need to work with the grain of the market, as an industry-led solution is often the best outcome for improving the efficiency of clearing and settlement activities.
10 In conclusion, making the plumbing of financial systems safe and efficient is an important goal that is recognized by central banks, financial regulators and market participants alike. The BIS Committee on Payment and Settlement Systems and Technical Committee of IOSCO, as well as the G30 Group have all made recommendations to improve settlement systems. EMEAP, ADB and industry associations have also on their part, been pursuing cooperation, conducting research and discussing with market participants on ways to enhance cross-border arrangements. On our end, the MAS is actively participating in the various regional, and also global discussions and initiatives, to consider new and innovative steps to further develop the bond markets and its supporting infrastructure. Once again, thank you for inviting me and I trust this conference will be a most interesting and fruitful one.
1 Except for remnants of some papers in Japan and Indonesia.