Asset Safety Risk Fez, Morocco 25 April 2012. © 2012 Thomas Murray Ltd. Page 2 PRIVATE AND CONFIDENTIAL Thomas Murray’s definition: ‘The risk that assets

Asset Safety Risk

Fez, Morocco

25 April 2012

© 2012 Thomas Murray Ltd.Page 2 PRIVATE AND CONFIDENTIAL

• Thomas Murray’s definition: ‘The risk that assets held in custody at the CSD may be lost or misappropriated, either due to a default or an omission, misuse, or breakdown of controls (legal, operational or other)’. Risk that assets may not be clearly identifiable or that book-keeping records may be inaccurate. Risk that assets could be mis-appropriated or misused. Risk that assets may be commingled with that of an insolvent party. Risk that assets may be frozen or their ‘portability’ inhibited. Risk that the legal framework may be inadequate to protect assets.

What is Asset Safety Risk and Why is it Important?

• Events such as Lehmans, Madoff, MF Global and other defaults have highlighted the importance of asset recoverability/portability.

• Although losses were mainly in cash and collateral, institutional investors’ concerns go through the value chain, even to securities held in custody at the CSD.


Principles

Capital Market Infrastructure

CSD

CSD

Negotiable Direct Investor ExposureInstitutions

Global Custodia

n

Sub Custodia

nSub

Custodian

Sub Custodia

n

Asset Manager

Pension Fund

Thomas Murray Data Services Business

Risks mitigated by :

• contractual terms between custodian and investor

• financial strength of custodian

• proper segregation and identification of investor's assets

• operational controls of custodian

• on-going monitoring of global custodian

• ** A matter of choice **

Risks mitigated by :

• standard participation agreement

• local legal framework

• financial strength of CSD

• proper segregation and identification of investor's assets

• operational controls of CSD

• ** No choice **


• Segregation of securities• Nominee concept• Bankruptcy Law• Liens on assets• Bearer or registered securities• Immobilised or dematerialised securities• Reconciliation and audit of book-entry portfolios• Vault audits and control• Account control• Cash deposits

Asset Safety Risk Criteria


• Level of segregation:

CSD from participant

Direct participant from indirect participant (client)

Client by client (i.e. designated segregation)

• Legal basis for segregation

• Market compliance with law

• Segregation of collateral

• Segregation within settlement processing

Segregation – Risk Elements


• Nominee convention

• Legal weight of records: CSD vs custodian vs registrar.

• Account freezes on insolvency affecting portability of assets;

• Creditor Ranking: Client’s vs general creditors’ claims in pooled accounts

Legal Framework – Risk Elements


• Dematerialised/immobilised vs physical

• Registered vs bearer

• Law on forms of new issues

• Law on listed securities being in registered form

Forms of Securities- Risk Elements


• Participant to CSD - Transfers reconciliation frequency and automation

• Participant to CSD – Balances reconciliation frequency and automation

• CSD to registrar – Balances and transfers reconciliation frequency and automation

• Reconciliation break frequency and resolution timeframe

• Book-entry system audit – Proportion of positions verified periodically by internal and external

auditors

• Vault audit - Proportion of positions verified periodically by internal and external auditors.

Authentication of certificates.

Reconciliation & Audit - Risk Elements


• CSD lien on securities held in or transferred through it

• CSD lien on cash held in or transferred through it (if applicable)

• Extent of lien on accounts: direct participants’ assets vs indirect, limits on values.

• Reason for liens

• Process for exercise of lien – court order, notice period, best execution

Liens - Risk Elements


• Controls and Procedures:

Automated / manual processes

Audit of controls

Control exceptions

• Account Access:

Which parties have access?

Triggered by instructions only – exceptions? Matched?

• Vault controls

Account Control - Risk Elements


• Only applicable where CSD is holding or transferring cash

• CSD counterparty credit rating

• Paying agency services-

Gap between pay-in and pay-out

Cash held on or off-balance sheet

Cash account segregation

Cash Deposit - Risk Elements


• An accurate picture of the recoverability of assets in a worst-case scenario is high on the agenda for many institutional funds.

• Asset safety exposures are rarely fully intermediated by custodians

• Risks vary by market, by CSD and by asset class

• Best principles – Transparency, Control and Reserve

• TM reacting by introducing Asset Safety Risk into CSD assessments. Questionnaires to be issued in September 2012 with completed analysis by May 2013 for CSD12.

Conclusions


Thank You

Documents

Asset Safety Risk Fez, Morocco 25 April 2012. © 2012 Thomas Murray Ltd. Page 2 PRIVATE AND CONFIDENTIAL Thomas Murray’s definition: ‘The risk that assets