Chapter 3Further potential reforms on competition in clearing and settlement
Introduction
3.1This chapter discusses recommendations on competition in clearing and settlement that inquiry participants identified that are in addition to the existing reforms. The recommendations are grouped into the following areas:
regulator competition mandates;
central counterparty default funds;
structural incentives of Australian Securities Exchange (ASX) Clear and ASX Settlement;
pricing for clearing and settlement, and routing trade executions; and
central counterparty interoperability and operational standards.
3.2Background information and existing reforms for competition in clearing and settlement are discussed in chapter 2.
Regulator competition mandates
3.3This section discusses Cboe's suggestion that competition, competitiveness, and growth should be included in the Reserve Bank of Australia (RBA) mandate and expanded in the Australian Securities and Investment Commission (ASIC) mandate:
Cboe considers that one critical measure to improve the existing co-regulatory model would be to strengthen (in the case of ASIC) and embed (in the case of the RBA) competition, competitiveness, and growth into the mandates of the regulators.
3.4Cboe's arguments in support of its recommendations are outlined as follows:
Currently, [ASIC] is required to 'consider the effects that the performance of its functions and the exercise of its powers will have on competition in the financial system'.# There is no equivalent RBA mandate with respect to its supervision of clearing and settlement facilities.
We consider that a greater focus on competition, competitiveness, and growth, in both regulation and supervision, will lead to better outcomes for investors, the market, and Australia’s attractiveness as a financial centre. In the context of the new CHESS Replacement project, it could empower regulators to scrutinise more deeply the competition outcomes of the project.
In the UK, the conduct and financial stability regulators have these mandates.## Importantly, they have been implemented as secondary objectives and must be advanced as far as reasonably possible, having regard to their primary objectives.
3.5The committee sought the views of inquiry participants on Cboe’s suggestions. Responses from Treasury and the RBA are noted below.
3.6The RBA stated that it considers its mandate to be a matter for the Government to determine. The RBA indicated that it works closely with ASIC and the Australian Competition and Consumer Commission (ACCC) in its supervision of clearing and settlement facility licensees. ASIC and the ACCC both have responsibility to consider competition issues.
3.7Treasury set out its view of the current regulatory oversight by the RBA:
[Clearing and settlement] facility licensees are subject to regulatory oversight by both ASIC and the RBA in relation to risk management. [Clearing and settlement] facilities must comply with their general licensee obligations under section 821A of the Corporations Act [2001], as well as the Financial Stability Standards made by the RBA. ASIC enforces a general licensee obligation to have sufficient resources, including human, financial, and technological resources, to operate the facility properly. Several of the Financial Stability Standards for Central Counterparties deal with risk management; in particular, comprehensive frameworks for the management of risks, general business risk; and operational risk.
ASIC’s rule-making power in Schedule 3 of the Bill has been designed to allow ASIC to ensure that, consistent with the [Council of Financial Regulator’s] Conclusions Report and the Minimum Conditions, competition, if it emerges, is safe and effective. The content of particular rules is a matter for ASIC.
Committee view
3.8The committee notes Cboe's suggestion to include competition, competitiveness, and growth in the RBA's mandate on clearing and settlement services and strengthen ASIC's mandate in those areas. The committee observes that Cboe's suggestion could be relevant to the regulatory settings on default funds, which are discussed in the next section.
3.9However, Cboe's suggestion did not appear to receive support from other inquiry participants. Therefore, the committee is not making any recommendations now. The committee notes, however, that if the proposed financial market infrastructure reforms (discussed in chapter 2) proceed, that might provide an opportunity for Cboe's suggestions to be reconsidered.
3.10The committee notes that it also sought the views of inquiry participants on the appropriateness of the co-regulatory mandates of ASIC and the RBA. That evidence is discussed in chapter 6.
Central counterparty default funds
3.11Central counterparties must maintain a pool of financial resources to cover potential losses due to the default of one or more clearing participants. One of the typical components of central counterparty financial resources is a default fund. ASIC indicated that these default funds must be held by the central counterparty, be unencumbered, and immediately available to a central counterparty on the default of a participant to minimise market disruption and to ensure that the central counterparty can continue to meet its obligations to non-defaulting participants. A central counterparty's default fund is typically made up of contributions from the central counterparty and its participants.
3.12The National Guarantee Fund is a compensation fund available to meet certain claims that arise from dealings with participants of the ASX and Cboe and, in limited circumstances, participants of ASX Clear. Division 4 of Part 7.5 of the Corporations Regulations 2001 sets out the types of investor protection claims that dealers' clients may make on the National Guarantee Fund:
Completion of sales and purchases of quoted securities on the ASX’s or Cboe’s equities or debt markets entered into by a dealer (Subdivision 4.3). The dealer may have failed to provide to the client, after settlement, the securities purchased or the proceeds of sale, or may have failed to complete a transaction because the dealer was suspended.
Loss that results if a dealer transfers marketable or certain other securities without authority (Subdivision 4.7).
Loss that results if a dealer cancels or fails to cancel a certificate of title to quoted securities contrary to the provisions of the operating rules of ASX Settlement (Subdivision 4.8).
Loss that results if a dealer becomes insolvent and fails to meet its obligations in respect of property (usually money or securities) that had been entrusted to it in the course of, or in connection with, its business of dealing in securities (Subdivision 4.9).
3.13Cboe made the following recommendation on default funds (Cboe Recommendation 1):
The regulators and Treasury review the allocation and role of the National Guarantee Fund contribution of $71.5m, allocated to ASX Clear as 'restricted capital reserve', having regard to the benefit of supporting resilience and competition across Australia’s financial markets. Given their origin, Cboe considers there is a strong argument these funds should be available for the benefit of all [central counterparties].
3.14The Australia Custodial Services Association (ACSA) agreed that where a National Guarantee Fund exists to protect against the default of a clearing participant, it should support the activities of all approved clearing houses, not just the activities of the ASX.
3.15The National Stock Exchange of Australia (NSXA) supported Cboe's recommendation for the return of clearing default capital for its holistic application as a general Industry Capital Reserve.
3.16Treasury responded to Cboe's recommendation indicating that the funds making up the ASX’s restricted capital reserve are legally the property of the ASX. While these funds originated in the National Guarantee Fund, they were transferred to the ASX in March 2005. The RBA also advised that it is unclear whether the default funds could legally be recoverable in the manner suggested by Cboe. ASIC also indicated that there is no legal mechanism for the recovery by Government of this payment from the ASX, and any legal requirement for repayment of funds would be a matter for Government.
3.17The RBA provided some background on how the current situation for default funds arose through requirements under the Financial Stability Standards:
ln 2003, the Reserve Bank determined the first [Financial Stability Standards]. The standards, which reflected evolving international best practice with respect to risk management arrangements, required Central Counterparties…to have liquid resources reliably available to settle obligations in the event of a participant default. At the time, ASX's [central counterparty], the Australian Clearing House…was relying on recourse to the [National Guarantee Fund] to meet its default obligations. The RBA considered this arrangement to be inconsistent with [Financial Stability Standards] because the [National Guarantee Fund] could be subject to competing claims, eg from market participants seeking compensation for losses arising from coincident broker failures. There were also concerns that funds from the [National Guarantee Fund] could not be accessed in a timely manner and that access to additional funding to bridge this liquidity gap could be needed. The permanent transfer of funds from the [National Guarantee Fund] to [Australian Clearing House] was undertaken as part of a coordinated effort to bring [Australia Clearing House] (at the time the sole active clearing house) into compliance with the [Financial Stability Standards].
3.18ASIC also provided some background information:
The changes to the [National Guarantee Fund] and the Corporations Regulations 2001 were aligned to ASX Clear’s obligations as a [clearing and settlement] facility licensee under Pt 7.3 of the Corporations Act [2001], including the obligation to comply with the RBA’s Financial Stability Standards for [central counterparties]…under s821A(1)(aa)(i) and s827D(2)(a). In addition to these standards, all licensed [clearing and settlement] facilities have a direct obligation under s821A(1)(d) of the Corporations Act [2001] to have sufficient resources (including financial, technological and human resources) to operate a [clearing and settlement] facility properly. Any potential new entrant [central counterparty] seeking to obtain a [clearing and settlement] facility licence would need to demonstrate that it could comply with the obligations that would apply if the licence were to be granted, which includes the licensee obligations under s821A of the Corporations Act [2001].
3.19The RBA advised that the increasing strategic importance of central counterparties arising from mandatory clearing for some products means that dedicated resources for default management are now even more critical for effective risk management and maintaining market confidence in the integrity of central counterparties. Although the Financial Stability Standards have been updated several times since 2003, the RBA indicated that its concerns regarding reliance on the National Guarantee Fund for default management remain unchanged. From the RBA’s perspective, a common pool of the National Guarantee Fund is neither sufficiently reliable nor sufficiently liquid to be considered a resource available for default management under the Financial Stability Standards.
3.20The RBA also noted that it is unclear how centrally held funds would be allocated among existing and future clearing and settlement licensees. As a result, the RBA indicated that any new entrant would likely still be required to raise and maintain sufficient liquid resources to meet its obligations on participant default to achieve regulatory compliance.
3.21ASIC and the ASX noted that in March 2005, the Corporations Regulations 2001 were amended to remove the clearing support role of the National Guarantee Fund so that it was no longer liable for clearing support claims. At the same time, a ministerial declaration was made under section 891A of the Corporations Act 2001, providing that a payment of $71.5 million be made to ASX Clear, being a body that had made adequate arrangements for clearing and settlement support.
3.22The ASX did not agree with the Cboe recommendation and informed the committee of its view of how the current arrangements arose when ASX Clear took over the role of clearing support from the National Guarantee Fund. The ASX clarified that prior to 2005, the National Guarantee Fund performed a dual role of investor protection and clearing support. However, the government recognised that ‘this dual function arrangement is inconsistent with international practice and the Reserve Bank of Australia’s Financial Stability Standards (which address, among other things, responsibility for clearing support).’
3.23The ASX indicated that the $71.5 million payment was to cover claims for clearing support, which could previously be made on the National Guarantee Fund. Sufficient funds were retained in the National Guarantee Fund to continue to cover claims for investor compensation ($93.9 million as of 30June2005). In 2020, Cboe became a member of the Securities Exchanges Guarantee Corporation. The ASX acknowledged the importance of the National Guarantee Fund providing a streamlined investor protection regime that covers securities listed on the respective markets of the ASX and Cboe.
3.24Based on that history the ASX argued against Cboes' recommendation as follows:
Cboe’s proposal that $71.5 million be repaid to [Securities Exchanges Guarantee Corporation] fails to recognise that the payment was made to ASX Clear because it took over the liability for clearing support from the [National Guarantee Fund]. The Corporations Regulations that set out the [National Guarantee Fund]’s clearing support role no longer exist. The [Securities Exchanges Guarantee Corporation’s] ability to make rules relates to the performance or exercise of its duties under Part 7.5 of the Corporations Act [2001], which does not extend to clearing support. Further, it was recognised in 2005, and remains the case, that investor compensation and clearing support are very different roles, requiring different skills and operational arrangements, and should not be combined in the same entity.
3.25The ASX further argued that as a central clearing counterparty for cash markets, ASX Clear maintains sufficient financial resources to cover the default of the two participants and their affiliates, which would potentially cause the largest aggregate credit exposure for ASX Clear in extreme but plausible market conditions. The $71.5 million is a restricted capital reserve that forms part of the financial resources held by ASX Clear to meet this regulatory requirement. As of 30June 2023, ASX Clear held $250 million total in paid-in resources in respect of this regulatory requirement, comprised of $178.5 million in addition to the $71.5 million in restricted capital reserve.
Committee view
3.26The committee acknowledges the recommendation on default funds made by Cboe and the support for it by some industry participants. The committee notes that those parties may perceive that the $71.5m restricted capital reserve may give ASX Clear an advantage over another clearing market entrant that would have to raise its own restricted capital reserve to meet licence conditions and financial stability standards.
3.27However, the committee also notes that ASIC and the RBA have indicated that returning the $71.5m to the National Guarantee Fund is neither viable nor desirable for reasons including that such an action may not be:
legally possible;
able to meet financial stability standards;
effective in meeting the purpose of default funds for clearing support; or
consistent with licence conditions.
3.28Without a viable option, the committee is not making any specific recommendations on how to proceed on the fairness of default funds for cash equity clearing and settlement. The committee observes that if the government believes it would be appropriate to identify and explore options for fairness of default funds for cash equity clearing, further work may be required. Due to the technical complexity of default funds for cash equity clearing and settlement, the committee considers that the Council of Financial Regulators may be best placed to develop an approach.
Structural incentives of ASX Clear and ASX Settlement
3.29The ASX Group is a vertically integrated exchange and market infrastructure provider. Subsidiaries ASX Clear and ASX Settlement have a monopoly in providing cash equities clearing and settlement facility services. They facilitate the clearing and settlement trades in ASX-listed and non-ASX-listed securities. Further detail on the ASX structure was provided in Chapter 2 and Figure 2.2.
3.30This section discusses some of Cboe's concerns about competition in clearing and settlement, Cboe's recommendations for structural changes, and responses from other inquiry participants.
3.31Cboe indicated that it considers that there is a lack of competition in clearing and settlement services in Australia and suggested this had contributed to the failure of the CHESS Replacement Project. It further stated that:
This dynamic resulted in a system that primarily served narrow commercial interests rather than contributing to investors and the broader financial ecosystem in Australia. To be clear, we do not believe that this was the product of an individual or group of bad actors or bad faith on the part of ASX. It is, however, a by-product of a lack of proper incentives to ensure a resilient, customer focused clearing and settlement services model in Australia. Because of this, the proposed technology solution was not what Australia needed or wanted, with industry and ultimately the Australian investing public paying the price.
In these circumstances, there is significant and ongoing evidence that suggests the root cause of the failure is the ‘protected monopoly’ of ASX’s clearing and settlement services combined with the extreme vertical integration of the ASX Group, characterised by the almost total integration of commercial ASX Group entities at a systems, operations, and even, on occasion, governance level. The anti-competitive outcomes delivered by ASX actions in this environment, irrespective of whether those outcomes are intended by ASX actors or not, results in negative outcomes for Australian markets and investors. The evidence suggests that vertical integration is not of itself a cause of these failures and outcomes, but that they stem from the ASX integration model and ASX actions in that environment.
3.32Cboe contrasted the above outcome with the competition in the securities secondary trading market:
Competition in the delivery of financial market infrastructure is crucial to the development in Australia of world-class cost-effective services for all stakeholders in our financial markets. Cboe Australia has provided a 12-year case study for this. Through our relentless competition for listed securities and secondary trading market share with ASX, we have demonstrated that competition generates innovation and delivers cost efficiencies that benefit all stakeholders.
We estimate that the competition we have delivered to the Australian marketplace has resulted in savings of over $404 million to the industry and investors. Through our activity across the last 12 years, we have achieved a market share of roughly 20 per cent of all cash markets secondary trading in Australia.
3.33Cboe identified several situations that it suggests are examples of the problems that arise with the ASX monopoly, ASX integrated structure, and current lack of competition in clearing and settlement services:
Using the clearing and settlement monopoly to enter or dominate other markets.
There is a lack of transparency on the updated CHESS Replacement Project scope, including open interfaces, sufficient interoperability requirements, and insufficient information to stakeholders on how CHESS works.
Anti-competitive situations, such as requiring competing equities trading markets to use ASX issuer administration services.
Discrimination in favour of ASX products relative to competitors, such as not offering clearing and settlement services on the same terms as the ASX.
More onerous margin and stress test requirements to competing markets.
Applying discriminatory liquidity requirements to other market operators.
Taking ownership of innovations by other market operators.
3.34Hence, Cboe recommended changes to the structure of ASX Clear and ASX Settlement (Cboe Recommendation 2):
The regulators require ASX Clear and ASX Settlement to be structured in such a way that, at an operations, governance, and technology level, they are incentivised to, and rewarded for, servicing all their customers equally. ASX Group must not be able to continue to use its dominant position through its clearing and settlement functions to diminish competition in areas in which it competes with non-ASX businesses.
3.35ACSA agreed that a level playing field should exist between all clearing houses and there should be no advantage of one clearing house over the other. NSXA suggested that regulators should take an active position in the current environment with the absence of competition to ensure that ASX Clear acts independently to protect the interests of each market operator equally. NSXA agreed with Cboe that the regulators should compel ASX Clear to review and act on its structure transparently. NSXA suggested that this equally applies to ASX Settlement, especially given its monopoly position and forced commercial relationship with non-ASX issuers.
3.36Computershare noted proposals that ASX Settlement should be separated from the ASX Group as either a partial or complete spin-off. Computershare did not endorse that approach due to the significant complexities involved. However, Computershare did support analysis of options and any alternative models of the entity structure of market infrastructure that is appropriate for the needs of the national market now and in the foreseeable future.
3.37FinClear suggested that there is an opportunity and need for regulatory settings to be reformed to promote greater competition. FinClear suggested an industry structure in which industry participants jointly own and operate the CHESS-like capability as a utility service to all participants.
3.38FinClear noted that an alternative option would be to adjust regulatory settings to promote innovation and competition via alternate capabilities and encourage direct participation from leading alternate providers to diversify risk away from a single monopolistic provider. FinClear argued that many international jurisdictions are successfully implementing this approach.
3.39In November 2023, the RBA announced a consultation process on Increasing the Threshold for the Application of the Financial Stability Standards for Securities Settlement Facilities. The consultation paper indicated that the proposed increase in the threshold would remove a regulatory burden from small entrants:
The current threshold represents less than 0.001 per cent of Australian equity or debt settlement activity in 2022. Increasing the threshold is intended to remove a disproportionate regulatory burden from small entrants, including startups that are not expected to pose concerns for financial stability.
It is proposed that the threshold be increased to a value of $40 billion per annum. This is equivalent to about 1 per cent of the annual settlement activity for Australian equity securities and less than 1 per cent of annual settlement activity for Australian debt securities. The Bank does not consider that firms with settlement activity below $40 billion per annum (calculated on a gross basis) are likely to pose systemic risks to Australia’s financial stability.
3.40FinClear also argued that platforms providing atomic settlement should be allowed to compete without being regulated as clearing and settlement facilities. FinClear suggested this would encourage investment in both private and public market infrastructure that could deliver electronic and atomic settlement. In its submission, FinClear indicated that it currently has a licence application before ASIC to operate a market, to enable investors of private unlisted companies to trade shares. FinClear’s licence application also contemplates that its platform will provide atomic (instant) settlement of these trades.
3.41Treasury responded to Cboe's second recommendation, noting that the competition in clearing and settlement bill may address the Cboe recommendation by providing for an ASIC rule-making power:
ASIC’s rule-making power will allow ASIC to make rules for the governance of a [clearing and settlement] facility licensee where there is at least an indirect connection between the rule and the provision of [clearing and settlement] services. This will allow ASIC to ensure that a [clearing and settlement] facility licensee’s governance arrangements, including matters such as board composition, do not impede competition or the provision of [clearing and settlement] services to users on terms consistent with the [Council of Financial Regulator’s] Regulatory Expectations for Conduct in Operating Cash Equity Clearing and Settlement Services in Australia.
3.42ASIC agreed with Treasury's observations above, noting that ASIC’s new powers will include the ability to develop clearing and settlement service rules relating to governance arrangements and supervision of a clearing and settlement facility’s management of intragroup conflicts of interest.
3.43ASIC confirmed its expectation that ASX Clear and ASX Settlement should focus on identifying and managing intragroup conflicts of interest and gaining the trust and confidence of its customers, including non-affiliated market operators with competing interests with ASX Limited. ASIC noted that the recently established Clearing and Settlement Advisory Group will advise the boards of ASX Clear and ASX Settlement on key strategic clearing and settlement issues and contribute to the successful replacement of CHESS. ASIC concluded that:
ASIC will continue to monitor ASX Clear and ASX Settlement’s compliance with their existing obligations under the Corporations Act [2001] and, if necessary, use our new powers under the proposed Pt 7.3A of the Corporations Act [2001] to achieve compliance with future ASIC [Clearing and Settlement] Services Rules by ASX Clear and ASX Settlement.
3.44ASIC also noted that any decisions relating to the structural separation of ASXClear and ASX Settlement are matters for the ASX and government to consider and go beyond the intended policy objectives of the recent competition in clearing and settlement reforms and ASIC’s new clearing and settlement service rule-making powers.
3.45The ASX also responded to Cboe's recommendation on structure, indicating that:
The recent competition in the clearing and settlement bill promotes competitive outcomes in the absence of competition without imposing additional costs for the industry.
The competition in clearing and settlement bill reforms should be implemented and assessed before considering further changes.
Further significant changes are likely to result in increased costs to the industry, for example:
in a structurally separated environment, the clearing house would not have the backing of the ASX Group to raise new capital in a situation of extreme financial stress;
the increased cost of capital for the standalone clearing and settlement facilities; and
not being able to access the efficiencies of shared corporate group functions (e.g., finance, risk management, legal, information technology and cybersecurity).
All ownership models for clearing and settlement facilities will involve differing interests and commercial considerations.
3.46The ASX suggested that the key to managing potential conflicts is to have appropriate arrangements to manage those interests and ensure that licence obligations are met. The ASX argued that it has:
…a robust framework in place for the identification and management of conflicts of interest. As requested by the RBA, ASX engaged law firm Herbert Smith Freehills…as an external expert to review ASX’s arrangements to identify and manage potential conflicts between the commercial interests of ASX Group and the licence obligations of ASX Clear and ASX Settlement, focusing on current CHESS and CHESS replacement… Overall and having regard to recent governance enhancements by ASX, the…review found that “the existing framework for conflict identification and management within the ASX Group… is sophisticated and consistent with the framework [Herbert Smith FreeHills] would expect from a listed group of the complexity and scope of potential conflicting operations of the ASX Group.” ASX is well progressed on implementing the recommendations...
3.47Subsequently, in response to questions on notice ASIC indicated that it proposes to initially make rules to address the current monopoly market structure for the provision of clearing and settlement in Australian cash equities by ASX Clear and ASX Settlement. ASIC confirmed that if a competitor applied for a clearing and settlement facility licence, ASIC and the RBA would engage with the applicant to understand its proposed offering and the impacts on the market including market structure. ASIC also noted that it could make emergency rules if it is necessary, or in the public interest, to do so to protect:
the Australian economy;
the efficiency, integrity, and stability of the Australian financial system; or
safety, fairness, and effective competition in the provision of clearing and settlement services.
3.48In clarifying how it would decide on whether to implement rules, ASIC indicated that:
We would follow ASIC’s internal governance processes for the exercise of ASIC rule making powers, including obtaining of Commission approval and internal legal review of the proposed rules. ASIC would then seek Ministerial consent to make the proposed [clearing and settlement] Service Rules, and if consent was granted, ASIC would formally make the rules as a legislative instrument. The rules would also be subject to Parliamentary disallowance.
Our process for the development of [clearing and settlement] Service Rules would involve consultation with the public on the proposed rule and consultation with the ACCC and the RBA…ASIC would also engage with the Office of Impact Analysis…to determine whether an Impact Analysis is required and if so, engage with [Office of Impact Analysis] on this process.
3.49ASIC also confirmed that following the implementation, it would monitor compliance with the clearing and settlement services rules on an ongoing basis, including in its consideration of any proposed changes to the operating rules of the licensed settlement facilities operated by ASX Clear and ASX Settlement. ASIC noted that breaches and anticipated breaches of the rules must also be notified to ASIC. ASIC also indicated that it would review the clearing and settlement service rules as needed to ensure that the rules remain fit-for-purpose, necessary, and relevant.
International context
3.50International clearing and settlement arrangements and market structures vary. There is a mix of vertically integrated exchange groups and exchanges that use third-party clearing and settlement providers.
3.51In the United States (US), the Depository Trust and Clearing Corporation and its subsidiaries provide clearing and settlement services to most of the securities market. While the New York Stock Exchange and the National Association of Securities Dealers Automated Quotation exchange (NASDAQ) are vertically integrated exchanges, they still rely on Depository Trust and Clearing Corporation for post-trade services. US stock exchanges such as Cboe and Investors Exchange also use third-party clearing and settlement facility providers.
3.52Like the ASX, other countries including Singapore, Japan, and Canada are vertically integrated exchanges. The London Stock Exchange Group is vertically integrated in the United Kingdom (UK), with its subsidiary LCH and related entities operating multi-national clearing houses. LCH is also one of the world’s leading clearing houses and services major international exchanges, platforms, and over-the-counter markets.
3.53In Europe, there is greater competition in clearing from third-party providers. While LCH is a dominant clearing house, EuroCCP (a subsidiary of Cboe Global Markets) is a leading clearing house primarily for European equity markets. Deutsche Börse’s vertically integrated business offers clearing and settlement services through its subsidiaries.
3.54In most major economies, there is typically a limited number of clearing and settlement facility service providers; in some, there is only one. Clearing and settlement facility services require significant upfront and ongoing investments in technology, infrastructure, and regulatory compliance. Hence, in some circumstances and markets, a single provider may be able to provide the services at a lower cost than multiple providers could.
Committee view
3.55The committee acknowledges the importance of the ASX group structure for competition in clearing and settlement. Cboe and other industry stakeholders have raised concerns that the structure impedes competition for services that are potentially more contestable, such as central counterparty and clearing services, compared to less contestable services, such as settlement. Further, industry stakeholders have argued that the ASX has used its integrated structure to its own advantage to charge higher prices and leverage into other contestable services. The committee acknowledges that while such activities occur naturally in any business setting, the question is whether it is happening to a degree that is causing significant costs and inefficiencies for other participants and investors. Some industry stakeholders appear to be of the view that there is a problem and that the existing measures to manage issues arising from the ASX structure are not working.
3.56The committee also observes that the disadvantages of the integrated ASX structure sit alongside several advantages as noted by the ASX:
the clearing house has the backing of the ASX Group to raise new capital in a situation of extreme financial stress;
the lower cost of capital for integrated clearing and settlement facilities; and
the efficiencies of shared corporate group functions.
3.57The committee observes evidence from Treasury and ASIC that the recently passed competition in clearing and settlement legislation potentially enables regulators to take further measures to address competition concerns arising from the integrated ASX structure. Hence, the committee considers it very important for the ministerial determination and ASIC’s rulemaking to proceed in a timely way, as recommended in chapter 2.
Pricing for clearing and settlement, and routing trade executions
3.58NSXA advocated for a review of the pricing of monopoly clearing and settlement services to explore wholesale and retail pricing options:
…there is no concept of a wholesale versus retail service or white labelling of the services by ASX [Clear] and ASX [Settlement]. ASX [Settlement] charges issuers full retail price on a monthly subscription basis. To improve this aspect, the Committee could explore other monopoly schemes for fair access such as the NBN Co pricing structure. NBN Co has no competitors but it offers a monopolistic wholesale service to telecoms providers at a wholesale price and market operators can then compete amongst themselves, on an efficiency basis, as to what price is charged to the end user. Further [ASX Clear] and [ASX Settlement] also charges the market operator for access to the services. This means that the market operator has to recoup this cost from its issuers making it more expensive for NSXA companies to access the same services that ASX issuers do. Pricing should always be on a fair and equitable basis, especially when there is only one provider of that service in Australia.
3.59NSXA noted the arrangements for clearing and settlement in the US. Central clearing, settlement, and depository functions are performed by the Depository Trust and Clearing Corporation, which, although a monopoly, is a not-for-profit organisation that services all market operator exchanges in the US.
3.60Cboe recommended limitations on charging for routing trade executions for clearing and settlement (Cboe Recommendation 5):
No Australian Market Operator, or its aligned Clearing and Settlement service, should be able to charge Market or Clearing Participants, investors, or competing Clearing and Settlement infrastructures for the routing of trade executions for clearing and settlement.
3.61ACSA agreed that charges between clearing houses for routing trades should be minimal and not discourage competition by the creation of excessive charging for interoperability of processes. NSXA supported Cboe's position on dominant market power in terms of access and pricing.
3.62Treasury submitted that:
The [Council of Financial Regulator’s] Regulatory Expectations state that users’ access to monopoly [clearing and settlement] facility infrastructure should be granted on terms and conditions, including price, that are fair and reasonable (Regulatory Expectations 2 and 3). Subject to passage of the Bill, ASIC will have the power to make rules to enforce this expectation once the required Ministerial Determination is in place. The ACCC will have powers to arbitrate disputes about the terms of access to [clearing and settlement] services, including price, once the Bill has become law and the required Ministerial Declaration is in place. The ACCC will be required to have regard to ASIC’s rules when making arbitral determinations – see subsections 153ZER(1)(b) and (d) of the Bill.
Committee view
3.63The committee notes that the ACCC may use its new power to assist the industry in resolving disputes on pricing clearing and settlement services and charging for routing trade executions.
3.64The committee notes from Treasury's response to Cboe's supplementary submission that the ACCC will be required to have regard to ASIC's rules when making arbitral determinations. Hence, the committee considers it very important for the ministerial determination and ASIC’s rulemaking to proceed in a timely way, as recommended in chapter 2.
Central counterparty interoperability and operational standards
3.65Interoperability is an arrangement that links different central counterparty Clearing Houses, allowing participants of one central counterparty to seamlessly deal with participants of another central counterparty. Enabling different systems, protocols, and processes to facilitate the transfer, confirmation, and settlement of financial transactions for participants across multiple systems can make it more cost effective for traders to participate in a wider range of financial markets and can also facilitate competition between central counterparties by opening up participant networks.
3.66 Establishing common technical standards and protocols, such as messaging protocols, application programming interfaces, and data formats, is critical to achieving interoperability. Interoperability gives market participants a choice between different operators, thereby promoting competition and innovation.
Figure 3.1Interoperability
Source: Council of Financial Regulators, Review of Competition in Clearing Australian Cash Equities: Conclusions, p. 29.
3.67Cboe recommended establishing interoperability and operational rules to encourage effective competition (Cboe Recommendation 4):
Following passing of the [competition in clearing and settlement] legislation, ASIC establishes firm rules in key areas that are needed for competition to emerge and be effective. Potential emerging competitors must be assured that:
(a)Competition will be on a fully interoperable basis.
(b)Competing [central counterparties] will be linked on a peer-to-peer basis.
(c)Access to the CHESS settlement batch and the Central Securities Depository will rank equally between [central counterparties].
(d)Access to key competitor systems will be on an equal access basis.
3.68ACSA had a similar view, suggesting that regulations should ensure:
interoperability;
appropriate linkages between approved clearing houses;
equal status of clearing houses within any market trade matching or settlement processes;
appropriate access to enable effective interoperability between approved clearing houses; and
all approved clearing houses should rank equally.
3.69NSXA supported interoperability separately across the central counterparty and ASX Settlement functions. NSXA supported Cboe's position on batch settlement and ASX Settlement as a Central Securities Depository on open access to CHESS Holder Identification Numbers. NSXA broadly supported Cboe's recommendation on equal access.
3.70Cboe also recommended that if there are multiple central counterparties there should be agreed operational standards (Cboe Recommendation 6):
Competing [central counterparties] should transparently agree and maintain operational standards within core functions that deliver to the highest standards of performance and resilience within securities clearing for Australia's investors, participants, and stakeholders.
3.71ACSA agreed that all approved clearing houses should deliver to high standards of performance and resilience. NSXA broadly supported Cboe's position.
3.72NSXA indicated that, in its view, market operators are seeking a clear commitment to interoperability where more than one clearing house and a settlement facility were allowed to co-exist with the ASX facilities. NSXA argued for a holistic approach to competition covering all the components of the clearing and settlement licence (including, for example, interoperability and consumer data rights).
3.73NSXA noted that regulators (in the 2015 Council of Financial Regulators report) have expressed doubt that committed competitors would emerge due to a notion of weak contestability. NSXA argued that clearing and settlement are contestable and there are overseas jurisdictions with multiple facilities that interoperate. NSXA further explained:
…that a holistic view of competition needs to be considered to promote and enable innovation to prosper. A possible solution is to consider the issuance of tiered [clearing and settlement facility] licences and/or the inclusion of licence conditions. This may include certain thresholds incorporating aspects such as scale, complexity, transaction volumes and values.
NSXA proposes that Principles of Competition are introduced which holds ASX Clear and ASX Settlement accountable to the spirit of open access and the intent of the legislation to follow. This may build upon ASIC’s Open Access Principles for licensed listing markets seeking access to ASX Clear. Although such principles may not have regulatory powers of enforcement they can act as a severe deterrent and promote adherence through visibility of any breaches.
3.74FinClear indicated that it broadly agrees with the Cboe recommendations. It suggested that these recommendations would promote further competition via regulatory reforms, standardised international messaging capabilities and agreed operational and interoperability standards.
3.75In a report commissioned for FinClear, Mandala argued in favour of interoperability amongst clearing and settlement systems, suggesting that:
Interoperability allowed participants to choose based on pricing, product offerings, and risk management capabilities.
Interoperability amongst players enables innovation, reducing costs and risk and improving efficiency.
In 2009, European clearing and settlement markets established interoperability arrangements to enable increased efficiency. These arrangements have since been expanded to cover a wide range of products that now includes equities, interest rates and foreign exchange.
Implementing interoperability arrangements in European markets has resulted in cost savings, improved liquidity via greater competition and reduced system risk by increasing the resilience of clearing and settlement systems.
Interoperability reduced the need for market participants to hold duplicate margins for their trades, as well as the reducing the resources associated with reconciling trades, leading to an overall reduction in costs.
3.76Mandala also noted that CHESS uses a proprietary messaging standard with plans in the new CHESS to upgrade to the International Organization for Standardization 20022 global messaging standard, which will better enable interoperability.
3.77Computershare acknowledged that the competition in clearing and settlement legislation could address interoperability issues. However, Computershare remained concerned about the level of influence that the ASX had:
We appreciate that the proposed legislation seeks to address any issues of interoperability and access, and the Explanatory Memorandum states that ASIC’s [clearing and settlement] services rules would deal with matters including the coordination and cooperation between [clearing and settlement] facilities, registries and issuers in respect of transfer and administration of holdings. However, we question the continued appropriateness of the ASX Group exerting such extensive control particularly over the operation of the issuer sponsored subregister. This creates a significant conflict of interest risk, which has been evident during the [CHESS Replacement Project].
3.78Computershare also had concerns that if a competitor clearing and settlement facility is established, further unnecessary uncertainty will be created where that facility may provide differing terms for the operation of aspects of the issuer-sponsored subregister. Computershare suggested that this has the potential to not only generate interoperability issues between competing clearing and settlement facilities, which the new framework contemplates, but also puts issuers and their registrars in the middle of potentially conflicting expectations and requirements for securities administration from the clearing and settlement facilities’ rulemaking.
3.79Computershare acknowledged that:
The ASX's control of securities administration derives from the historical development of clearing and settlement services in Australia.
It may require some time to agree and establish updated principles regarding where the ASX should and should not be able to make rules about these aspects of securities administration.
3.80Computershare suggested that the ASX rules relating to the operation of the issuer-sponsored subregister should be limited to matters necessary for the interaction with the CHESS subregister (for example, transfers between the subregisters). Hence, Computershare recommended that the government and the regulators consider the appropriate principles and whether, for example, the operational requirements for the administration of the issuer-sponsored subregister and the complete register of members should be governed by ASIC rulemaking. In Computershare’s view, the above recommendation should be considered in parallel with the implementation of the legislation and subsequent ASIC rulemaking on clearing and settlement.
3.81In response to industry concerns about interoperability, the ASX indicated that:
It acknowledges that interoperability will make it easier to facilitate competition in clearing and settlement services should a competitor emerge.
Interoperability is a requirement for the CHESS Replacement Project solution design, including modular technology architecture with separate components for clearing, settlement and sub-register services.
In the CHESS Replacement Project Request for Information to Vendors, there were four specific questions related to the requirements for interoperability and extensibility.
Subsequently, a Request for Proposal was sent to specific vendors, and there were eight interoperability-related requirements.
Separately, there are CHESS Replacement Project criteria related to interoperability and extensibility in the project principles and the Solution Decision Framework.
Componentisation in the technology architecture and extensibility are crucial to enabling interoperability.
3.82Treasury advised that it considered the use of the rule making power for interoperability was a matter for ASIC after the ministerial direction is in place.
3.83ASIC indicated that clearing and settlement service rules could include requirements for interoperability arrangements and the use of global technology standards, as well as requirements around transparent, non-discriminatory, fair, and reasonable pricing of, and access to, clearing and settlement services.
3.84In its response to Cboe’s recommendation, ASIC indicated that it is committed to using its new powers in a timely manner while ensuring any proposed new rules carefully balance the policy objective of facilitating competition while not compromising financial stability or effective market functioning. ASIC noted that in consultation with the RBA and ACCC, lessons learned internationally on competition in clearing will inform the requirements of the Australian market and the proposed business model of an entrant central counterparty.
3.85ASIC noted that the Council of Financial Regulators Minimum Conditions for Safe and Effective Competition in Clearing (Minimum Safe Conditions) aim to give potential entrants sufficient clarity as to the measures that would need to be in place before the regulators could advise in favour of a competing central counterparty’s licence application.
3.86The Minimum Safe Conditions for competition in clearing cover:
(i)adequate regulatory arrangements;
(ii)appropriate safeguards in the settlement process;
(iii)access to settlement infrastructure on non-discriminatory, transparent, fair, and reasonable terms; and
(iv)appropriate interoperability arrangements between competing cash equity central counterparties.
3.87ASIC indicated that the Council of Financial Regulator’s Minimum Conditions policy statement requires that the technological design of ASX Clear and ASX Settlement infrastructure should not raise barriers to the interoperability or access to settlement arrangements by a competing central counterparty. ASIC added that under its new rule-making powers, this expectation could be codified as an obligation, ahead of the emergence of competition.
3.88ASIC observed that interoperability between competing central counterparties could facilitate competition by reducing the entry costs for a future competitor in terms of lower development costs (that is, building to industry standards rather than bespoke ASX standards) and the time taken to launch. However, ASIC confirmed that the ASX would not be required to provide interoperability before a competing central counterparty emerges:
…the Minimum Conditions (Clearing) set out that ASX would not be required to make upfront operational changes to accommodate competition until such time as a competing [central counterparty] committed to entry—and to avoid incurring unnecessary costs by industry should a competing [central counterparty] not emerge. We note that [central counterparty] interoperability has been successfully implemented in other markets.
3.89ASIC informed the committee that if a competing central counterparty emerges:
ASIC will work closely with the RBA to consider the technical and complex policy considerations flagged in the Minimum Safe Conditions.
ASIC will carefully consider stakeholder views, including Cboe’s, on matters, including the interoperability operating model and the mechanics of central counterparty linkages.
The RBA would need to consider additional guidance to the Financial Stability Standards for central counterparties that deals with managing risks arising from interoperable links.
The regulators would clarify arrangements for the regulatory oversight of matters such as default management and central counterparty recovery in a multi-central counterparty environment.
As an ongoing monopoly provider, ASX Settlement’s services would remain under the Council of Financial Regulator’s Regulatory Expectations and, therefore, fall under ASIC’s rule-making powers to facilitate competitive outcomes in the absence of competition in settlement. Rules may include the provision by ASX Settlement of access to its cash equity clearing and settlement services on commercial, transparent, and non-discriminatory terms to users, including an entrant central counterparty.
Committee view
3.90The committee notes from the evidence it has received that multiple central counterparties can operate with or without interoperability and that both approaches have advantages and disadvantages. The committee observes the support among some industry participants for the interoperability of clearing and settlement systems. The committee notes that the CHESS Replacement Project has interoperability as a design requirement, so assuming that the CHESS Replacement Project implements clearing and settlement interoperability, it would be available when the new CHESS comes online. The committee considers that it would be vital for the regulators to closely monitor the development of interoperability in the CHESS Replacement Project due to the significant impact it has on other market participants.
3.91The committee recommends that Australian Securities and Investments Commission and the Reserve Bank of Australia make interoperability a focus of their monitoring of the Australian Securities Exchange Clearing House Electronic Subregister System Replacement Project.
3.92Noting that the CHESS Replacement Project may take many years before it is available, clearing and settlement interoperability in the intervening period may present significant challenges. The committee acknowledges the compromise status quo proposed by the Council of Financial Regulators—that is, that the ASX would not be required to provide interoperability before a competing central counterparty emerges due to the costs that would be imposed on other industry participants. However, the Minimum Safe Conditions for a competing central counterparty require appropriate interoperability arrangements between competing central counterparties.
3.93Hence, the committee notes that the status quo may present a barrier to a competing central counterparty. This is due to the fact that there may be a significant amount of time needed before a competing central counterparty is established and is operable until the ASX and other industry participants change their systems to provide appropriate interoperability as required under the minimum safe conditions.
3.94The committee therefore considers that if the government wishes to enable competition in the clearing of cash equities before the new CHESS will be available, it should request the Council of Financial Regulators further explore options for addressing the interoperability barrier.
3.95The committee notes that it will be important to bear in mind that:
it remains unclear whether the benefits of competition in clearing and settlement would outweigh the costs and that a test of that is whether a competitor emerges; and
where competition in clearing and settlement exists overseas it is generally a result of bringing individual countries’ markets in Europe together rather than emerging within a market in a country.
3.96The committee recommends that in order to promote competition in clearing and settlement before the new Clearing House Electronic Subregister System will be available, the Council of Financial Regulators should explore options for addressing the interoperability barrier.
3.97The committee notes that several of the issues raised by inquiry participants in this chapter may potentially be addressed by the new competition in clearing and settlement legislation and subsequent actions by the Minister, the RBA, ASIC and the ACCC.
3.98The committee also notes that the bill bringing in the new legislation did not appear to provide for a statutory review of the new laws and resulting actions within a few years of them taking effect. Given the range of significant issues raised by inquiry participants, the committee suggests that it would be appropriate for a review to be conducted within three years.
3.99The committee recommends that the new competition in clearing and settlement legislation and subsequent actions by the Minister, Treasury and regulators be independently reviewed in the second half of 2026.