It’s widely acknowledged that the process of netting trades significantly reduces settlement risk by reducing the overall sum of the notionals to be exchanged between two counterparties. Netting also improves the efficiency of the settlement process, reducing the number of payments being made and the amount of funding or liquidity required.
However, agreeing netting sets with counterparties, monitoring payment flows, and keeping track of available liquidity are manual-intensive tasks prone to human error.
Baton’s Core-Payments allows the automation and simplification of the calculation and confirmation of netted settlement amounts, reducing manual intervention and also enabling netting across multiple asset classes.
Market participants face a number of operational challenges in relation to netting. There is typically no opportunity to handle netting preferences between counterparties automatically. In some cases, bespoke preferences, such as whether certain products or currencies should be excluded from the netting process, may simply be recorded manually by a member of the operations team.
Such challenges often lead to firms rejecting the idea of netting in favour of settling gross through straight-through processing, which eliminates the need for time-consuming and resource-heavy procedures. But there is no doubt that netting is beneficial to counterparties and to the wider market.
How can the netting process be made simpler?
Market participants need technology that gives them the ability to configure, program, and automate the netting process.
Essentially, this means the ability to input into a platform all the details which have been recorded manually so that, in the event of team members leaving or departmental restructuring, netting processes are already automated.
Baton Systems’ Core-Payments™ delivers this functionality, using business-defined rules to give firms complete control over their payments and settlements. Firms can net transactions using rules which are fully configurable and align with the approach of their various counterparties.
Baton’s payment netting engine runs on a continuous basis. Once the netting process is complete (often based on an agreed timing), automated workflows communicate with the underlying customer for agreement of the settlement values.
A firm using Core-Payments is therefore able to avoid time-consuming and potentially error-prone manual involvement in the calculation and creation of netting sets. The platform’s use of distributed ledger technology (DLT) allows banks to collaborate with their counterparties in real-time, with all parties benefiting from full transparency and auditability. The ‘back and forth’ between counterparties is significantly reduced and the settlement can be configured to take place as late as one hour before the cut-off on the value date. If the participants wish, the netted values can be calculated for both parties and settled on-demand on a PvP basis via Baton Core-FX™.
“The platform’s use of distributed ledger technology (DLT) allows banks to collaborate with their counterparties in real-time, with all parties benefiting from full transparency and auditability”
Product agnostic
It’s often the case that activities across business-lines are treated differently by banks in the course of post-trade processing. Back-office systems are generally business-specific, leading to differences in turnaround time and customer service. Core-Payments allows users to streamline the cash-related post-trade workflows across all products so that they are able to net across multiple lines of business with a level of automation, flexibility, and transparency that is lacking for nearly all market participants today.
“Core-Payments allows users to streamline the cash-related post-trade workflows across all products so that they are able to net across multiple lines of business with a level of automation, flexibility, and transparency that is lacking for nearly all market participants today”
Beyond netting
Many banks rely heavily on manual processes and legacy systems not just for netting but for post-trade processing all the way from confirmation through to reconciliation. The range of siloed and disparate applications in use are often unable to benefit from STP efficiencies. This increases the risk of making incorrect or duplicate payments, which in turn leads to delays and additional costs, and increases the likelihood of regulatory scrutiny.
Unlike other solutions on the market, Baton’s set of tools supports the complete end-to-end post-trade process from trade matching through to settlement. Core-Payments eliminates the need to link multiple, disjointed post-trade systems by covering all stages of the cashflow lifecycle.
Core-Payments, along with other Baton solutions, has been designed to be highly interoperable with existing systems, delivering fully-connected post-trade processing without the need to rip and replace. At the same time, the platform provides a pathway for a full technology upgrade.
“Core-Payments eliminates the need to link multiple, disjointed post-trade systems by covering all stages of the cashflow lifecycle”
The wider view
Enabling firms to benefit from fully customisable, friction-free netting processes as part of their post-trade processing has an impact not just on the workload of the operations team but on the treasury function of the entire organisation.
There are risks and costs associated with the inability to net trades effectively. Clearly, settling gross involves a higher volume of payments with larger notionals being exchanged. With this comes greater settlement risk and inefficient intraday liquidity management.
This, in turn, has a large impact on the bank’s balance sheet. FX is a key contributor to the funding burden that banks bear, across all of the currencies that they support. Settling gross inevitably results in the requirement to fund nostros with larger balances in order to meet liquidity requirements.
From a risk perspective, if a firm is able to net more trades in an efficient and scalable way, daily settlement limits for their counterparties can often be reallocated to other lines of business to service that client for other asset classes too – something which is not possible when settling gross.
In today’s financial markets, we’re seeing greater diversification of counterparties, asset classes, and new products. Without the capability to net trades automatically across all asset classes, ever more complex and time-consuming manual processes will continue to hamper the settlement process, leading to increased risk and inefficient markets.
“FX is a key contributor to the funding burden that banks bear, across all of the currencies that they support. Settling gross inevitably results in the requirement to fund nostros with larger balances in order to meet liquidity requirements”
I hope you found this blog useful in explaining how Core-Payments automates and simplifies the netting process, giving firms control over their payments and settlements across business silos. To learn more about Core-Payments please don’t hesitate to contact me at [email protected]